Quantum Corp (QMCO) 2018 Q2 法說會逐字稿

Good day, ladies and gentlemen and welcome to the Q2 2018 Quantum Corporation earnings conference call. At this time all participants are in a listen only mode. Later we will conduct a question and answer session and instructions will follow at that time. (Operator Instructions) As a reminder, this conference call 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 are Raghu Rau, our chairman; Adalio Sanchez, our Interim 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 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 strategies; opportunities and priorities; our transformation initiatives; 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 10K 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 will turn the call over to Raghu Rau.

Thank you, Shawn. Welcome to our Q2 fiscal 2018 conference call. This has been a very eventful quarter for Quantum. As you can see from the press release we issued today, we made a number of announcements beyond just reporting our Q2 results.

These included naming board member, Adalio Sanchez, as our new Interim CEO replacing Jon Gacek; securing additional funding and being on track to pay off the convertible notes due on November 15; identifying and executing the implementation of a very significant cost savings plan; and bringing on Eric Singer of VIEX Capital Advisors as a member of the board.

With all of this in mind I wanted to kick off the call today with some comments about our announcements. I will then turn it over to Adalio for some brief remarks after which Fuad will cover our Q2 results in more depth and provide guidance.

First, Q2 was a disappointing quarter that fell short of all of our expectations. Fuad will take you through, in detail, the challenges the company faced in executing on the quarter and the prospects for the future. Most importantly as you will see from some of the announcements, the company is intensely focused on taking aggressive actions to immediately reduce our cost structure, ensure better execution and generate more consistent growth and profitability. We expect strong sequential growth in revenue and profitability in the second half of this fiscal year.

Now let me turn to the CEO transition. I?m very pleased that Adalio has been appointed to serve as an Interim CEO following the departure of Jon Gacek. Adalio is an experienced operating executive who has held senior executive positions with IBM and brings tremendous business and technology experience, along with domain expertise that will be extremely valuable in driving Quantum?s business transformation and improving execution.

The Board has also appointed a search committee which I will head, and we have selected Korn Ferry International to commence a search for a permanent Chief Executive Officer. I also wanted to highlight that we?ve secured $20 million of additional financing as part of our amended credit agreements with TCW Direct Lending and PNC Bank. This comes on top of the $170 million financing package we secured with these same lenders last fall. We are on track to pay off the remaining $57 million of convertible notes due next Wednesday and the incremental $20 million gives us additional financial and operational flexibility.

As Adalio will discuss the strategic review that the Board conducted affirmed that Quantum is well positioned to capitalize on the changing market landscape, leveraging its technology and solutions trend. Quantum has strong data protection products and royalty revenue that is highly profitable and generates significant cash flows which are expected to continue long into the future. The scale-out part of our business is expected to grow at double digits and the company?s products have been chosen by the world?s top companies, including one of the largest public cloud vendors.

In addition, Quantum?s initiative in establishing the Rook open source project and the cloud-native software-defined storage product line gives it the unique opportunity to establish an early leadership position in this emerging space. We expect to begin the customer beta program early next quarter and already have some marquee names who want to participate. Our first product is planned for launch by early April next year and we and our customers are really excited about the promise of these next-generation products.

A key element of our transformation plan is driving cost reductions to increase profitability, financial flexibility and help with growth investments. As part of our engagement with AlixPartners we reviewed an addressable total cost basis of $476 million including all third-party and labor cost. Following the assessment, we have begun taking actions that immediately lower our cost structure and that are expected to result in up to $35 million of annualized cost savings by the end of next fiscal year.

Another announcement that we made today is the appointment of Eric Singer of VIEX Capital Advisors to our Board of Directors. Besides bringing significant boardroom expertise, Eric will be uniquely positioned to provide a shareholder perspective and will be of significant assistance in the Board?s efforts to deliver increased value for all of our shareholders. With that, let me turn the call over to Adalio.

Thank you, Raghu. Good afternoon. This is Adalio Sanchez. I am excited to take on the role of Interim CEO for the company. I?ve been on the Board now for six months and I led the strategic assessment work of the reconstituted Board. And now as CEO I look forward to working with the Quantum team to execute on the actions. I understand the storage space and its dynamics quite well and given my deep involvement with the company since last summer, I am hitting the ground running.

Now let me take a moment to describe the strategic assessment work and where we are going. As was mentioned, the Board conducted a very comprehensive review of the company spanning its strategy, its products, technologies, supply chain, cost and expense structure and our go to market model. The company engaged AlixPartners as part of this effort.

The review concluded that Quantum has a very strong set of differentiated data protection and scale-out technologies that positions our company very well for helping our customers manage the explosion of data in an increasingly software-defined cloud-driven world. Based on this our strategy is as follows.

We will leverage our strong position in data protection to increase profitability. This is our profit engine. We will drive growth with our scale-out tiered storage offerings leveraging our unique StorNext asset and this is our growth engine. At the same time, we?re building a software-defined storage and data management platform to improve margins and increase recurring revenue streams going forward. And lastly, we will reposition our company over time as a modern software-defined solutions provider as new products roll out.

Now to enable the strategy we have embarked on a comprehensive end-to-end transformation. This transformation will drive significant efficiencies and simplicity and generate up to $35 million of savings on an annualized basis by the end of fiscal 2019. Actions are already underway across all of these areas and results will commence, starting this fiscal quarter and accelerate as we go into the next. So that is our strategy and our plan of where we are going.

Lastly, let me comment on my priorities for the first 90 days. They are first, reignite the sales engine and enable the team to maximize performance. Secondly, aggressively drive the transformation and the cost actions; and third, execution, execution and execution. We will come together as a team and we will improve our performance.

I look forward to working with the management team and Quantum?s talented employees as we strive to achieve operational excellence and profitable growth for our shareholders. Fuad, over to you.

Thank you, Adalio. Let me start by reiterating that uncertainties and market dynamics notwithstanding, we are disappointed in our Q2 results and execution and the recent action taken by the company have clear indication of their resolve to refocus the organization and return it to profitability.

Now turning to our results. I will first refer everyone to the financial statements and the supporting schedules included in the press release and on our website. Starting with revenue. Total revenue for the second quarter ended September 30, was $107.1 million, down from $134.7 million from a year ago. Backorder included approximately $15 million of revenue from our large public cloud customer. Non-royalty revenue totaled $97.8 million of which 93% was branded and 7% was OEM, the same as last year.

Our revenue shortfall was partly due to challenging impacting our ability to close forecasted second quarter deals at the end of the quarter. The challenges included timing of closing deals at quarter end and third-party component supply issues, which mostly impacted scale-out tiered storage revenue. In addition, the revenue from disk backup system was lower than expected due to weakness in our traditionally strong EMEA market where several of our big installed base customers deferred repurchases. That was not the case last year.

We believe part of the challenges at quarter end involved timing of deals. However, we have already shipped more than 50% of the revenue from the deals that weren?t closed including those delayed by third-party component supply shortages.

I will now walk through our revenue results in more detail. Total product and related service revenue for our scale-out tiered storage solution was $33.8 million, down from $46.6 million in the same quarter a year ago. Recall that quarter included $15 million of revenue from our large cloud customer as mentioned earlier. Scale-out revenue performance was greatly impacted by severe component supply shortages we experienced at the end of the quarter. These shortages left us with over $5 million of shippable orders stranded at quarter end. Almost all of that backlog has been shipped. Never the less, we added 80 new scale-out customers and increased our win rates into mid-70s.

We had some notable customer wins. In Media and Entertainment, we closed several large deals in the traditional broadcast and board production part of the market, including one of the top US cable TV providers, a US broadcasting network and one of the major international broadcasters in Europe. We also continue to grow revenue from our customers using our scale-out solution to manage corporate video. Notable wins in this area included a $1 million plus deal at one of our largest consumer electronics companies in the world and another deal at a major university.

Beyond M&E we had another quarter of a strong year-over-year revenue growth in video surveillance, which included a large follow-on deal involving security at government facilities in Asia. Other wins included sales to a major bank in Asia, a military College and a North American medical cannabis provider. And the last deal is what we expect to be a series of deals with this provider.

We also saw solid growth in our video surveillance sales funnel during Q2 with particular momentum in cannabis facility security and state and local government opportunities. In addition, we are getting into deals earlier in the sales cycle as a result of our deepening relationship with partners.

Excluding revenue from large public cloud customer revenue from technical workflows grew significantly year-over-year. Key wins here included large deals at a leading provider of communications and IT infrastructure and a supplier of semiconductor production systems. We also continue to expand our footprint in autonomous vehicle research, winning new business that a customer that needed affordable long-term storage to support hyper scale data growth.

An important milestone in the quarter was general availability of StorNext 6, which provides an unparalleled combination of industry-leading performance in automatic policy driven advanced data management features. As a reminder, StorNext 6 was designed to help users overcome the challenges of working with growing volumes of higher resolution content such as 4K and beyond, and enable them to capitalize on the opportunities to re-monetize or repurpose that content.

Features in that release 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 a StorNext-managed environment and run embedded applications. These benefits we introduced in StorNext 5.4 last December. Some of the new features in StorNext 6 will be sold by us and our channel partners on an annual subscription basis thereby providing Quantum with a recurring revenue stream.

We also introduced two new Xcellis offerings in Q2. Xcellis Foundation and aiWare for Xcellis. Xcellis Foundation is a high-performance entry-level workforce storage system specifically designed to address technical and budgetary requirements of small to medium-sized postproduction facilities in corporate video departments.

Based on the StorNext platform the new system delivers the benefits of enterprise-class Xcellis storage including high performance and scalability in a NAS appliance for under $25,000. By providing a more powerful, more feature-rich alternative to other entry-level storage system at a similar price point, Xcellis Foundation is ideal for smaller video production facilities that need benefits of a shared workflow but have limited budgets to spend on shared storage. Although it?s only been shipping for two months, it?s been extremely well received by customers.

aiWARE for Xcellis is an on-premise cloud version of artificial intelligence platform from Veritone, a leader in cognitive analytics. By bringing Veritone?s multi-engine AI capabilities into StorNext-managed environment aiWARE for Xcellis enables users to leverage the power of Veritone?s cognitive services and applications to extract new value from their on-premise video and audio content.

The integrated solution is ideal for companies with significant investments in on-premise storage, latency, costs or security concerns about storage, cloud storage because it puts powerful AI processing behind the corporate firewalls. Announced in late August, aiWARE for Xcellis quickly garnered a new Best of Show award at IBC show in September. Award criteria included innovation, feature set, ease of use, versatility and ROI. In addition, at the end of September we secured our first customer win for this new solution. Fox Sports Brazil, an existing StorNext customer, is deploying aiWARE for Xcellis to cognitively enrich and index both archived content and live video streams.

Turning to our data protection solutions, total revenue which includes both branded and OEM product and related service revenue was $62.9 million, a decrease of $14.5 million compared to Q2 of fiscal 2017. Of the $14.5 million year-over-year decline the $8.8 million was primarily due to the decline in enterprise business in the disk backup systems products.

Total products and related service revenue for disk backup system was $11.7 million, down several million from prior year. The majority of the decline was due to decreased sales of our enterprise disk backup content, backup product. As I mentioned, we saw weakness in our traditionally strong EMEA market where several of our large installed base customers deferred big purchases. Our disk backup win rates remained in the 65% range and we added approximately 20 new customers in the second quarter.

Total tape automation system devices and media and related service revenue was $52.2 million for the quarter. Although this was down from $59.7 million in Q2 of fiscal 2017, it was largely on plan. More specifically, branded product and related service revenue was $45.8 million for the quarter compared to $51.3 million a year earlier and OEM product and related service revenue was $6.4 million, down from $8.4 million a year ago.

Our newest generation of Scalar i3, i6 tape libraries performed extremely well in the quarter. We continued to achieve high 70% win rates for tape automation and added 60 new branded midrange and enterprise automation customers during the quarter. Despite the challenges in data protection for the quarter there were some positive elements worth noting.

We clearly saw the benefits of increased sales opportunities from the expanded data protection partnership with Veeam that we announced in May, as well as SureStaQ for Commvault offering. SureStaQ is a validated reference architecture that combines compute, networking and storage to provide a converged backup solution designed for Commvault environments.

Finally, we did have some notable data protection wins in Q2 including a large deals at a leading provider of business analytics solutions, a company that provides integrated technology, services and data and analytics to financial services industry and an agriculture development bank in Asia.

Moving to service revenue, our total service revenue was $34.2 million in Q1, down from $36.6 million in the same quarter last year. The decrease was primarily driven by expiration of service contracts for early generation tape and disk backup systems. Royalty revenue was $9.3 million, down from $9.5 million the same quarter a year ago which by the way speaks to the longevity of the royalty stream. Moreover, royalty revenue continued to exceed our expectations.

Turning to gross margin, non-GAAP gross margin was 41.1% in Q2, down 50 basis points from the same quarter in the prior year due to revenue mix of slightly lower margin products. Overall product margins remain largely unchanged.

Now a more detailed look at expenses. Non-GAAP operating expenses were $46.2 million, a decline of $2.1 million from $48.3 million in the second quarter of fiscal 2017. We incurred a Q2 non-GAAP operating loss of $2.2 million, a decline of $10 million from Q2 of fiscal 2017 driven by overall decline in contribution margin from revenue.

Cash interest expense for the quarter was $2.2 million and we recorded tax provision of approximately one half million. All said, our non-GAAP net loss of $4.9 million or $0.14 per fully diluted share down $0.33 from the second quarter of last year. Finally, as Raghu said today we also announce that we have secured a $20 million incremental delayed direct term loan financing facility from TCW Direct Lending. The new capital is being provided under the amended credit agreements with TCW and PNC Bank and is on top of the $170 million financing package with the two lenders that the company announced in October of last year. This brings the total cash secured under the delayed draw term loan to $40 million including $20 million of previously committed funds.

In addition to the incremental financing, the amended agreements include less restrictive covenants than the original agreements. I would like to thank our lending partners for their continued support. Over the last two weeks we have worked very closely, and they have dedicated substantial time and energy analyzing, understanding our business not just the results, but also the story behind it.

Now let me turn to our plans for the second half of fiscal year. We will continue to focus on driving both growth and profitability but also optimizing for profitability at the individual deal level. We believe this is the right approach in light of our credit agreement requirements, the challenges we experienced in Q2 and the softness in the disk backup system market that we are experiencing.

One of our key objectives over the next two quarters is to return to generating higher growth in scale-out tiered storage revenue. As I mentioned earlier, we are excited about the opportunity we see with StorNext across our scale-out vertical markets and use cases. The power of what we can deliver with StorNext is evident in our new Xcellis Foundation system. We are providing enterprise cloud performance, scalability and management to small and medium-size media facilities at a price that they can afford, enabling them to take more demanding workloads and providing the flexibility to continue growing in a very strategic and cost-effective manner. What this means for Quantum is that we can now compete in a part of the market that we previously could not easily address and deliver a solution that is superior to competing alternatives.

We are also expanding our market opportunity through new partnership, most notably those with DataFrameworks and Veritone. We have integrated DataFrameworks? ClarityNow software into our Xcellis workforce storage and our archive appliances providing increased visibility into usage and other intelligence regarding large unstructured data. Through deeper insight into their data users with highly demanding work storage environments are able to scan, organize, access and migrate their data much more easily, efficiently to meet their business or mission objectives. This includes moving unused data off primary storage to an archive providing Quantum an opportunity to sell more archive storage even when the primary storage is provided by another vendor.

In the case of our Veritone partnership as discussed earlier the combination of Xcellis storage with Veritone aiWARE enables users to apply artificial intelligence to on-premise content thereby unlocking previously unrealized value from that data. In addition, as new content is captured it too can be analyzed using cognitive engines, both on its own and in combination with other stored content. We see the integration of artificial intelligence into our StorNext base solution as extremely powerful given that organization?s ability to deliver greater insights into their data and leverage it more strategically in increasingly critical market.

Over the next two quarters we will not only be building on the opportunities that these new offerings and partnerships provide but also introducing new scale-out storage and data management solutions that help customers meet their evolving needs.

Turning to data protection, a key objective for the remainder of the year will be improving upon our disappointing Q2 results in disk backup systems. We are actively engaged to address the challenges we encountered, and we will be capitalizing a new agreement we recently concluded with a primary storage provider to OEM our DXi backup and deduplication software. In addition, we will be building on our expanded partnership with Veeam which involves both our DXi appliances and Scalar tape libraries. They are now integrated with Veeam making it easier for Veeam customers to deploy 3-2-1 data protection best practices, storing at least three copies of the data on two different types of media with one backup copy off-site to guard against data loss, look-alike disaster and ransomware.

We also see continued opportunity to leverage our SureStaQ for Commvault offering to recruit new resellers and get into new data protection accounts. And speaking of resellers we recently announced a new program in North America designed for IT data centers channel partners frustrated with storage options available in the wake of industry consolidation.

The program provides partners with margin enhancements, expanded value-added service options designed to drive incremental revenue, as well as more extensive marketing and lead generation capabilities. It includes special incentives for securing a new Quantum customer and the reception from the partners have been very positive.

Another key objective for us is to leverage the introduction of LTO-8 tape drives in the media to extend our leadership in the tape market. The latest generation of LTO technology provides a 2X capacity gain and 20% performance improvement over LTO-7. It is ideal for helping customers cope with massive growth of unstructured data. LTO-8 is scheduled to be available in our Scalar and StorNext ADL systems next month furthering their position as the most efficient tape automation solutions in the market. With LTO-8 [inaudible] provide nearly 10 PB of uncompressed capacity in a single 19-inch rack with up to 144 PB of uncompressed capacity within the standard data center aisle, thereby enabling organizations to affordably meet long-term storage challenging by reducing datacenter footprint.

This also reduces power and cooling cost in reducing administrative time. The combination of LTO technology with Scalar and StorNext AEL?s tape automation also offers better storage densities than proprietary tape technologies. And with QUALCOMM-certified media LTO-8 bit error rates are equivalent to those of legacy proprietary media. Finally, as Raghu said we are continuing to develop our cloud-native software-defined storage platform.

Now let me turn to our guidance. For fiscal Q3 we expect the following, total revenue of $120 million to $125 million, non-GAAP gross margin of 42% to 44%, non-GAAP operating expenses of approximately $45 million to $46 million, non-GAAP interest expense of $2.7 million and taxes of half a million and finally, non-GAAP earnings per share of $0.16 to $0.22.

For the second half of this fiscal year we expect the following, total revenue of $250 million to$260 million and non-GAAP earnings per share of $0.36 to $0.42.

With that, I will now turn the call over to the operator for questions. Operator?

(Operator Instructions) Brian Alger with ROTH Capital Partners.

Thank you. Good afternoon. Obviously, a lot to go over. First, I guess trying to understand the amount of deals that were missed due to timing. You mentioned that half of them have since closed. I?m curious what the total amount is and if that amount would have allowed you to meet your guidance for the or your previously set guidance for the September quarter.

Let me answer that, Brian. Actually, that?s a good question. The total amount of deals that slipped both as a result of just slipped deals as well as component shortages, totaled almost about $15 million to $16 million. The component shortages accounted for almost $6 million of that, $5.8 million or so and we?ve shipped most of those that had component issues and the other deals are coming together as the quarter progresses.

And 50% of those have already been shipped.

Right, right, and it sounds as though a fairly large impact from a component standpoint was on the scale-out side. So it looks like had we not had the component issues scale-out would have actually posted both sequential well maybe not in an annual but certainly a stronger sequential comp, correct?

That is correct. I mean the components were primarily shortages in the scale-out as well as a number of slipped deals. The vast majority of them were scale-out deals.

Right. Okay, good. I?m curious as to the recommendations from the consultants and what not. Obviously, some cost-cutting is on tap, it looks like a couple of million dollars right out of the gate. We also saw a press release go out with regards to how you?re engaging with your resellers. I?m curious if that?s a shift in policy that?s coming as a result of evaluating the business through them or is that something that was in place previously?

No, I mean I think that was just part of speaking of the partner relations that?s just part of our natural review of how we engage with customers. As you know, the industry is in flux especially the channel part, so we want to make sure that we are engaged with the channels in the right way and we are compensating them for the business that they bring us. And that?s particularly important on the data protection side. So it?s not nothing that we would not have done in the normal course of business.

Okay. Then finally on kind of looking forward on the product set. Very excited to see Rook coming along the little things to market and be productized it looks like next fiscal year. I know it?s going to be shown over in Denver here next week but with that cloud-native application where do we see the greatest near-term opportunity for that? Is that enterprisewide or is that something that lends itself into M&E? Is that something that has the potential to be pervasive throughout all storage needs or is it confined to one specific vertical?

Actually it is not. It is a comprehensive software-defined platform for storage management. It?s not unique to M&E or video surveillance. It is intended to be a product vastly flexible in terms of the uses and it is a software-defined element that makes it so much flexible.

It allows us to impute and offer services that would sit on top of the platform such as aiWARE, the Veritone service we can also provide the dealer services on top of it as well as StorNext. So this is a major and a comprehensive platform overall and it is expected to not just expand into our existing verticals, but expand our reach in a more broader way.

I would also like to add to what Fuad said. This also gives us an opportunity to significantly improve you know the gross margins on our product because we would be eliminating some third-party suppliers that we are currently dependent on. And so that is another benefit in that this would generate.

Raghu, that was my next question. I?m curious if the cost savings coming from Rook that are enabled by that software definition architecture is contemplated within that $35 million of cost savings or if the $35 million is on top of the architectural improvements that come with it?

No, that is not included in the $35 million. The $35 million, I?ll briefly explain it to you how that comes about. What we did was we did a very exhaustive analysis at the insistence of AlixPartners. We reviewed addressable total cost basis of almost $476 million. This included about $298 million of third-party spend and other labor and program spending. And just to give you an example on some third-party work that we did, we determine of the $298 million there were $12 billion that we really couldn?t address because that included some banking services, tax preparation, investment services which nothing much we could do.

But there was a lot we could do with the other stuff. You know IT hardware, that?s a big portion of our spend. Contract manufacturing, that?s another big corporate, facilities. All of these are areas that we looked at exhaustively with the management and AlixPartners and then determined that these are the savings that we can generate. Just take a small example of freight, for instance. We spend about $9 million in freight and what we did was working with them is, we developed wrote up an RFI and now able to get some significant savings in just that one area. I?m just giving you this one example to just show the depths to which AlixPartners and the management have gone in trying to address the cost structure of this company.

Let me add, this is Adalio Sanchez. This was an in-depth review of the cost structure of the company. Every piece of the company and initiatives have been established on where are we going to go address and so the plans are in execution. Our estimation is we will get as Fuad said, a portion of it in this fiscal year.

We will implement additional actions that will go into next year for a total of about $35 million of savings over the course of the next fiscal year. So we?re pretty excited about the opportunity this brings us. This brings us additional profitability with more partner flexibility and allows us to invest in other parts of the business as time progresses.

Thanks, guys.

Thank you.

Our next question comes from the line of Bruce Goldfarb with Lake Street Capital. Your line is now open.

Thank you. Thanks for taking my call. It?s Bruce calling for Eric Martinuzzi. Just had some questions on your verticals. Could you comment on the verticals that make up the bulk of your second half ?18 pipeline?

We do not provide detailed information on the verticals, but we have, I can tell you we have traditionally heavy pipeline in Media and Entertainment from a scale-out perspective. That?s typically is -- always been a bright spot for us. We talked about video surveillance. We are finding ourselves increasingly larger deals early in the sales cycle, so we should expect some of those deals to start to close as well. And finally, I think what we are seeing on the data protection side, we do have a problem to solve on the backup side.

Having said that Q4 has generally been a good year, a good quarter for sales for backup, disk backup, in EMEA. We have seen that there is budget flush. So I feel like if you looked at the miss that we had, the deals that slipped with primarily function, not of the funnel but a function of execution, just deals slipping and supply shortages. So we expect to make some of that up as the quarter goes.

And one of the strengths that new Interim CEO brings is his ability to execute and that?s what we were really impressed with and I think that?s the [inaudible] here and we?re very hopeful that he?ll do thrice what he?s going to do over the next 90 days and I know he really means that.

That?s great. Next, relative with regard to your cost cuts, how will they impact your channel development efforts?

So as Raghu said, we are dealing with costs, primarily the costs that are not expected to impact sales in any way. We are taking out overhead cost. We are negotiating with third-party vendors to get better terms on the components that we buy from them.

So we are and part of the reason to do this is to be able to have the flexibility to invest in opportunities that grow top line, which is important to us. Obviously we?re showing a growth in Q3 and Q4 of this year. So we are targeting a lot of third-party spend, getting the organization more efficient and a more focused go-to-market.

This is Adalio Sanchez. The objective here is to grow sales, not to decrease them and the channel is very important to our business and to our growth potential going forward. So you can expect the optimizations that we?re talking about are really around the optimization of the cost structure of the overall operation of the business, not our go-to-market model per se.

Great, thank you. And then just one last question. You have, you have one great cloud customer. Are there any near-term pipeline with other public cloud providers?

We cannot discuss the specifics of our engagements with customers for a variety of reasons including competitive but that?s something obviously our sales team is keenly aware of and we do have a deployment, vastly scalable deployment, so we are going to be leveraging the know-how from there and the product that we have.

What we can say is the following, is that as this market is evolving and the growth of data continues to be so explosive and the cost pressures of the cloud service providers continue, tape is becoming, these kinds of products are becoming a very viable alternative for them across the board.

Great. Thank you. That?s all I had. Thanks for taking my questions.

No problem. Thank you.

Chad Bennett with Craig Hallum

Great. Thanks for taking my questions. It?s phenomenal to see transformational change happening at the company, I?ll just start off by saying that. So the prior leader always made the case that from a cost standpoint, you know, we?re competing with the large storage solution providers out there and you know, we were kind of as lean as mean as we can be and if we cut anything it would be revenue impacting negatively, obviously. I think Fuad talked about you?re obviously cognizant that the cost cuts will not be revenue impacting in things like we don?t even have enough salespeople in all of the NFL cities, whatever you want to call it.

So help me understand your expectations now of the business and where the cost cuts are coming from. What do you think the opportunity from a scale-out perspective, what do think the opportunity is in the growth of that business should be and what do you think the opportunity is in data protection after we get all of the costs of the business?

Okay, let me take that firstly, your question on the cost at a high level. One of the things that this new Board did, Chad, was to take ownership to some extent of addressing this cost structure issue because we clearly knew that was something that we really had to do. So we engaged AlixPartners and for the first time the company did a really holistic view of what the opportunity was, and we went down to a very great detail including going down to the PCB level and direct spend but that?s only one part of it.

We went through G&A, we went through R&D, we went through marketing, we went through facilities and also sales. In sales there are opportunities to optimize the cost structure without impacting the top line. So based on that analysis we did find a significant number of opportunities and as you said, total up to $35 million.

For instance, take R&D. The cost of R&D and the productivity of the R&D based on where we were investing in and where we needed to invest in, we found that there were gaps. You could move stuff from some of the legacy products to some of the new products and those were some of the things that we have been able to accomplish and do.

We?ve also looked at the labor cost. It?s not only for third-party cost but to your big question about where the cost savings are coming from, third-party spend is one of the big factors. It?s around the 30% plus level but it?s coming from every other bucket of cost because we?ve analyzed each one of them.

As far as the growth rate of scale-out is concerned we do believe it?s growing at double digits and will continue with strong double digits and I think Fuad will answer the third part of your question.

Chad, what was the third question?

Just the addressable market if there?s any --?

On the data protection side I mean obviously these are the two places we placed on the tape automation and the disk backup. Let me address the automation first. The businesses is in secular decline however, we are finding that tape has found new use cases in scale-out. We are finding use cases in hybrid cloud environments for tape. So we expect that tape has a long, strong future and a role to play in storage and we?re seeing that in the market. We are the biggest player in the space and we have been growing market share. We expect that trend to continue. We are aggressive in our products with thousands of customers using them. We continue to add customers. So that?s on a tape automation side.

Disk backup, we feel like we need to reorient our go-to-market strategy. It is, we are a small player in that market, less than 3% market share. While it?s a fairly profitable business for us to be in, it is not core to what we want to do long term. Having said that, data protection will be a service, it will be service offered by our Castle platform, so we will prosecute it in other ways. That business is, we are going to try to be efficient, try to grow that business more with partnerships, OEM relationships that we?ve already entered into just this quarter. So it?s not strategic but it is a part of our product portfolio that we need to address the go-to-market strategy slightly differently than how we do a scale-out.

Great. Thanks. A couple of more from me. Fuad, I think last call you talked about your large public cloud customer ordering another $20 million plus in scale-out product in the second half of the year. I guess do we still think that will happen and is that factored in your guide?

It is factored in my guide but in a negative way. That customer is experiencing construction issues deploying their own data centers. They are committed to the company. They will spend at least as much as they spent last year. That commitment we have, we have the roadmap to that kind of spending but given the uncertainty of the deployment, we?ve actually taken a conservative approach and that conservative approach is reflected in our new guidance.

In addition to that, we?ve also reflected low expectations on the disk backup business. While Q4 is traditionally good, our guidance at this point for conservatism we say just exclude any major changes in that business or reversal of growth.

Got it. And then maybe one last one for me or I think it?ll be my last one. Fuad, can you give us an idea after the convert payback next week kind of roughly a cash balance for the company?

Cash balance, I think we should talk in terms of liquidity because we will use the resources, cash on the balance sheet, the revolver, availability on the revolver and the $40 million that was funded earlier this week, we?ll just use that, and the cash will flex up and down. But at any given time, we should have liquidity of somewhere between $35 million to $40 million to repay it but it all depends on you know, how the revolver flexes because our business is cyclical within the quarter.

Got it. Actually last one for me and I know you guys just announced a lot of changes, significant changes and you have a lot on your plate, but it just piqued my interest, Fuad, and whoever else wants to join in, you talked about the disk business not necessarily being core to the business. And I?m just wondering is there an opportunity I guess whether it?s Raghu or Adalio, I mean does this business, do these products make sense all together? And I assume the Board is looking at every single way to monetize the business either as is or otherwise?

I mean I can get started. I think part of the strategic review is review of all of the product lines whether it makes sense to remain as part of the Quantum family, whether there?s other ways to get the same service or same product to our customers.

So as I said I think the partnerships that we did with Veeam and what we are doing with OEMing the DXi is a step in that direction. It allows us to enter the market in a more cost-efficient manner. So, I think you should be seeing, looking at all of the product lines and all of the products in that holistic, strategic way.

So let me -- this is Adalio. Let me comment. So as part of this strategic assessment we looked at the product lines, etc. and we will continue making evaluations and making changes as necessary to improve efficiency and improve our execution in the marketplace. Having said that as Fuad mentioned we are taking some actions on the DXi and quite frankly beyond even the DXi family I think there?s an opportunity for stronger partnerships with others.

You mentioned about sales talent and capacity, we?re a smaller company, etc. My experience is that when you have, when you?re not at critical mass the best way to get critical mass is to be like the big guys is to leverage others and to leverage partnerships. And I will be going with the management team through, evaluating our current partnerships, looking at which others we need to make us successful and give us more opportunity in the marketplace going forward.

And one more thing I would add to that specifically regarding DXi is that we do need to move R&D resources from products which have a declining trend and move that to some areas where there?s growing trend or take that down to the bottom line and that is something we specifically have done with DXi. The management team has already done, made some significant reductions in what is needed to support that product. However, we believe more needs to be done and the management team and Adalio and Fuad is clearly looking at that.

Great. Look forward to seeing the progress going forward. Thanks, guys.

Thank you.

Thank you. And this does conclude today?s Q&A session. I would like to return the call to management for any closing remarks.

All right. Thank you all for your participation. We look forward to continued communication with you and appreciate your time on the call today. Thank you.

Thank you.

Ladies and gentlemen, thank you for participating in today?s call. This does conclude the program and you may all disconnect. Everyone have a great day.