VMware Inc (VMW) 2015 Q1 法說會逐字稿

Good day and welcome to the VMware first-quarter 2015 earnings call. As a reminder, today's conference is being recorded.

At this time, I would like to turn the conference over to Paul Ziots, Vice President Investor Relations. Please go ahead.

Thank you.

Good afternoon, everyone, and welcome to VMware's first quarter 2015 earnings conference call. On the call we have Pat Gelsinger, Chief Executive Officer; Carl Eschenbach, President and Chief Operating Officer; and Jonathan Chadwick, Chief Financial Officer and Chief Operating Officer. Following their prepared remarks, we will take questions.

Our press release was issued after close of market and is posted on our website where this call is being simultaneously webcast. Slides which accompany this webcast can be viewed in conjunction with live remarks and can also be downloaded at the conclusion of the webcast from www.ir.vmware.com.

We have also included in our earnings release and posted on our website a reconciliation of GAAP to non-GAAP data for constant currency growth in revenues plus sequential change in unearned revenues for Q1 2015 and Q1 2014 excluding unearned revenues acquired from AirWatch in Q1 2014.

On this call today we will make forward-looking statements that are subject to risks and uncertainties. Actual results may differ materially as a result of various risk factors including those described in the 10-Ks, 10-Qs and 8-Ks VMware files with the SEC.

In addition, during today's call we will discuss certain non-GAAP financial measures. These non-GAAP financial measures, which are used as measures of VMware's performance, should be considered in addition to, not as a substitute for or in isolation from, GAAP measures.

Our non-GAAP measures exclude the effect on our GAAP results of stock-based compensation, amortization of acquired intangible assets, employer payroll tax on employee stock transactions, the net effect of amortization and capitalization of software, certain litigation and other related items, acquisition-related items and realignment-related net gains and charges and as mentioned unearned revenues acquired from AirWatch during Q1 2014.

You can find additional disclosures regarding these non-GAAP measures including reconciliations with comparable GAAP measures in the press release and on our investor relations website.

The webcast replay of this call will be available for the next 60 days on our Company website under the investor relations link. Our second-quarter 2015 quiet period begins at the close of business June 15, 2015. Unless otherwise stated, all financial comparisons in this call will be in reference to our results for the comparable period of 2014.

With that I'll turn it over to Pat.

Thank you, Paul, and good afternoon, everyone.

Our first quarter was a solid start to 2015. Q1 revenue grew 13% year over year in constant currency and we exceeded our total revenue and non-GAAP operating margin guidance.

We started 2015 with one of the most significant product launches in our history. On February 2, we were joined by over 25,000 customers, partners and influencers as we outlined our One Cloud, Any Application, Any Device strategy. And we announced the industry's first unified platform of virtualized compute, network and storage for the hybrid cloud.

This unified cloud platform enables customers to create one consistent environment across private and public clouds, able to run, manage or protect any cloud native or traditional application. It also offers customers openness and choice in how to build and manage their applications and cloud environments.

As part of this launch, we unveiled a series of exciting new products and services. New vCloud Air hybrid networking services will help customers seamlessly extend their VMware private and public clouds with a single secure network domain. We announced availability of VMware integrated OpenStack, an OpenStack distribution that enables our customers to easily provide their developers with open APIs to access VMware's enterprise class infrastructure.

VMware vSphere 6, which serves as the foundation for the hybrid cloud, features more than 650 new features with a focus on addressing the needs of business-critical and cloud native applications. And we also announced VMware Virtual SAN 6 and vSphere Virtual Volumes designed to enable mass adoption of software defined storage and introducing significant scalability and performance enhancements. Our One Cloud, Any Application, Any Device strategy demonstrates the dramatic benefits of a new software defined model for IT.

We are seeing a significant increase in the adoption of our newer products and solutions like NSX and we're seeing a significant increase in the percentage of customers adopting the full SDDC portfolio and solutions like enterprise hybrid cloud from our Federation of companies.

It's also been an exciting quarter in the area of cloud services as we continue to expand our offerings around the world. We announced an agreement with Google to deliver greater enterprise access to public cloud services via VMware vCloud Air. Our VMware vCloud Government Service provided by Carpathia has achieved the provisional authority to operate through the US Government's FedRAMP program.

And we expanded VMware vCloud Air in Europe and APJ with the general availability of service in Germany and in Australia through our partnership with Telstra. This new VMware operated German data center complements our UK service and provide customers with a Central European location that helps to address German and EU compliance and data protection regulations while enabling them to take advantage of VMware's enterprise class cloud.

We were busy at Mobile World Congress this year as we announced VMware vCloud for NFV with support from both service providers and several virtual network function providers. VMware vCloud for NFV is optimized for telcos and provides an integrated platform for network functions virtualization that combines our virtual compute, network, storage and management solutions with integrated OpenStack support.

We also announced AirWatch 8 at Mobile World Congress. This is the biggest release since we acquired AirWatch and will streamline the management of virtually every device type and mobile application while enabling organizations to improve (inaudible) processes.

We completed the tuck-in acquisition of Immidio for workspace environment management, which is now integrated with app volumes into our latest desktop release Horizon 6 R1. All in all, our end-user computing business continues to distance itself from the competition as we deliver unprecedented value for our customers.

Let me close by talking about yesterday's exciting introduction of three new open source projects from our Federation companies designed to enable enterprise adoption of cloud native applications: pivotal launch Project Lattice, which packages open source components from cloud foundry for deploying and managing containerized workloads.

And VMware announced the launch of two new open source projects. Project Lightwave, an enterprise identity and access management solution, which also enables scalable security for containers. And Project Photon, a lightweight Linux operating system focused on container and cloud native applications. Together, these new projects will help enterprises develop, run and manage secure cloud native applications.

In closing, we're delighted to recently be ranked in Fortune magazine's list of 100 Best Companies to work for in the US. This was our first submission and we competed with hundreds of companies for the honor of being recognized as one of America's Best Employers.

I'll now turn it over to Carl to talk more about our business performance in Q1.

Thank you, Pat.

VMware's One Cloud, Any App, Any Device vision is clearly being embraced by our customers and partners alike. This trend was evident with more than 4,000 people attending our partner exchange conference in February. We continue to build industry thought leadership as our customers are seeing the value in agility and efficiencies resulting from extracting, pulling and automating key data center resources.

We were pleased with our global sales execution in Q1 and are off to a solid start in 2015. Taking a closer look at our regional bookings performance, in Q1 we saw balanced growth across all geographies. This performance was a result of solid execution across the entire Company. Our customer operations team around the world did an outstanding job closing large deals in what is typically a seasonally tough quarter for technology companies.

Enterprise license agreements were approximately 30% of total first-quarter bookings. This is up from approximately 25% last Q1. This strong performance demonstrates customers' commitment to investing in VMware's expanded solution offerings.

We closed three deals at or over $10 million in the quarter and had a healthy mix of new ELAs, as well as ELA renewals. New ELAs continue to be over 50% of total ELAs. Our large deals increasingly include components from each of our three business groups. This reflects the strategic value our customers rely on from VMware.

Cloud management saw solid license bookings growth in Q1 helped by strong double-digit year-over-year growth from vSphere with operations. We were particularly pleased with our VSAN growth driven by our channel's ability to execute on our no naked vSphere strategy.

We saw strong customer interest and demand across all three of our cloud management products. VRealize Operation, vRealize Automation and vRealize Business. Our cloud management penetration is now nearly 15% of our install base leaving plenty of headroom for growth.

End-user computing had its sixth consecutive quarter of strong performance under the new leadership team. EUC including AirWatch grew license bookings over 50% year over year in Q1 on a constant currency basis. The desktop license business grew over 15% year over year on a constant currency basis and we believe we once again gain share from the competition during the quarter.

Specific to AirWatch, we believe we remain the undisputed leader in the enterprise mobile management space. In March, at Mobile World Congress, AirWatch was awarded the best mobile cloud service or app for an EMM vendor at this event. The ecosystem continues to embrace end-user computing, most notably Palo Alto Networks embraced AirWatch at their recent Ignite conference and Nvidia showcasing 3-D graphics powered by Horizon desktop and vSphere 6 at their recent GPU Technology Conference.

We saw continued momentum in Q1 for our network virtualization solution VMware NSX. We saw success across a wide variety of industries, market segments and geos. Our pipeline is growing rapidly and the number of customers doing proof of concept continues to accelerate every single quarter.

Earlier this year, results of a VMware customer study showed that the source of funds to purchase NSX has been predominantly from networking, cloud and security budgets. The purchase of NSX is being mainly driven by budgets beyond that of compute, thus allowing VMware to reach into new buyers and new sources of funds as we're building momentum behind network virtualization.

As we look at our customer pipeline and this data, we agree fully with IDC, which says that over 70% of large and midsize organizations will initiate major network redesigns over the next three years. We're seeing exactly that momentum today. We continue to see customers seeking to transform their network and security operations due to the current limitations of the network architectures in the data center today.

Moving to Virtual SAN, we continue to see customers from different industries and market segments interested in Virtual SAN as a storage solution, not just because of the technological value it delivers today, but because of the products' undeniable value around operational efficiency, ease of management and flexibility. VSAN is a key component driving our hyper-converged infrastructure solution, EVO:RAIL, a first of its kind in the industry built on the VMware software stack and delivering the SDDC promise in an efficient, predictable and cost effective way.

Turning to hybrid cloud, we continue to see momentum in our vCloud Air and our vCloud Air network offerings. Our vCloud Air service is now generally available in five global markets and on track with our objectives of expanding the geographical footprint. We're excited about our joint venture with SoftBank Group that brought vCloud Air to Japan. Early indicators show strong demand for vCloud Air for all industry segments in Japan.

In summary, we are pleased with the strength of our results in Q1, VMware's place at the center of the transformation taking place in the IT industry and we are positioned to lead the industry with the most complete portfolio in the Company's history. We are confident about our opportunity for Q2 and beyond.

With that, let me turn it over to Jonathan.

Thank you, Carl.

We are very pleased with our Q1 results as we exceeded both our total revenue and non-GAAP operating margin guidance. In addition, license bookings beyond standalone vSphere were greater than 55% of total license bookings, up from greater than 45% in Q1 2014 and nearly double the percentage of two years ago.

License bookings beyond standalone vSphere grew over 30% year over year in constant currency. This continues to demonstrate the significant progress we are making expanding our portfolio of products for enabling the software defined enterprise.

Q1 total revenues were $1.51 billion, up 13% year over year on a constant currency basis, or up 11% as reported. Q1 license revenues were $576 million, up 6% year over year on a constant currency basis, or up 3% as reported. As with most of our peers, currency negatively impacted revenue growth by more than anticipated when Q1 guidance was provided at this time last quarter. I'll talk about our expectation for a larger impact of currency on Q2 and full year 2015 when discussing guidance shortly.

Revenues from our hybrid cloud and SaaS offerings increased to greater than 6% of our Q1 total revenues with the growth rate once again of over 100% year over year. Diluted non-GAAP EPS for Q1 was $0.86 per share on approximately 430 million shares and as planned, continue to reflect the dilutive effect of the acquisition of AirWatch in 2014. During the quarter we repurchased approximately 5.4 million shares of stock for a total of $438 million.

Our balance sheet remains strong with cash and short-term investments at quarter end of $7.2 billion, up 9% from Q1 2014. Total unearned revenues ended the quarter at $4.7 billion, up 14% from Q1 2014, with $1.8 billion in long-term unearned revenues up 11% year over year.

We're aware that many of you use the calculation of revenue plus sequential change in unearned revenue as an estimate for bookings. To help you with this calculation this quarter, we have included a table with growth rates for these calculated figures in our financial statements. The table is also in the slide deck accompanying this call.

To summarize this data, in Q1 the growth rate for total revenue plus change in unearned revenue was approximately 7% year over year. The growth rate for licensed revenue plus change in unearned license revenue was approximately 9% year over year. These growth rates adjust for the impact of currency on revenue on unearned revenue, as well as for the unearned revenue acquired with the AirWatch acquisition back in Q1 2014.

Turning to guidance for 2015, as you recall when guidance was set for the full year we anticipated currency to have an approximate 2 percentage point negative impact to total revenue growth and an approximate 3 percentage point negative impact to license revenue growth. When guidance was set three months ago, we were applying an average US dollar to euro rate of $1.18.

Since the last earnings call the US dollar has continued to strengthen significantly and we now anticipate currency to have an approximately 3 percentage point negative impact to total revenue growth and a slightly over 4 percentage point negative impact to license revenue growth for 2015. For the purposes of guidance, we are now applying an average US dollar to euro rate of $1.07 for the balance of 2015. Significant changes from this assumption may affect our reported results and we'll update you as the year progresses.

With that as background, we currently expect total revenues for 2015 to be between $6.570 billion and $6.690 billion, or up 9% to 11% year over year. On a constant currency basis, this would be up 12% to 14% year over year. License revenues for the full year are expected to be between $2.700 billion and $2.775 billion, or up 4% to 7% year over year. On a constant currency basis, this would be up 9% to 12% year over year.

Note that there has been no change to revenue guidance for 2015 except to adjust for the increased impact of currency. As a reminder, we will continue to monitor the effect of growth in our hybrid cloud and SaaS businesses. Obviously faster growth for hybrid cloud and SaaS could have a delaying effect on total revenue growth.

While we believe we have taken this into account in the guidance provided for 2015, we're tracking this carefully given the solid growth we continue to experience. We'll update you as we progress through the year.

For 2015, we continue to expect full-year non-GAAP operating margin to be approximately 31.5%, which balances some margin expansion against continued investment in our growth businesses. As a reminder, we are planning for AirWatch to be EPS neutral exiting the fourth quarter of 2015. However this plan continues to imply a dilutive effect from AirWatch on overall margins throughout 2015. We continue to see the opportunity to invest in our various new product areas and we intend to manage spending accordingly.

Regarding cash flow from operations, while we managed cash flow well in Q1, our cash receipts in foreign currency represent approximately 30% of our total billings. These receipts as well as their expenses in foreign currencies are affected by the historic movements in FX rates that we're all monitoring. And based on the dollar to euro rate of $1.07 I mentioned earlier, we now estimate that cash flow from operations will be approximately $50 million lower at $1.95 billion in 2015. There are no other changes to operating cash flow guidance for the year.

We are currently modeling a share count of between 428 million and 430 million shares for the year, and our non-GAAP EPS range of between $3.94 and $4.02 per share. Note that there has been no change to non-GAAP EPS guidance for 2015 except to adjust for the increased net impact of currency and the effect of our share repurchase program.

You'll note that we accelerated our buyback significantly during Q1 repurchasing 5.4 million shares for just over $438 million. We saw Q1 as a good opportunity to be more aggressive with our buyback program given the opportunities we see ahead. We continue to plan for over $1 billion of repurchases in 2015 weighted towards the front half of the year. These share repurchases in 2015 are taking into account in our share count model.

Shifting to Q2 2015, we expect total reported revenue to be between $1.580 billion and $1.600 billion, or up 8% to 10% year over year. On a constant currency basis, this would be up 12% to 14% year over year. License revenues for Q2 are expected to be between $630 million and $640 million, or up 3% to 4% year over year. On a constant currency basis, this would be up 9% to 11% year over year.

For Q2 we expect non-GAAP operating margin to be approximately 30.25% and non-GAAP EPS of between $0.90 and $0.92 per share. Remaining guidance for Q2 in 2015 is included in the slide deck posted on our investor relations website.

In summary, we're off to a great start for the year having posted solid Q1 results, which exceeded total revenue and non-GAAP operating margin guidance for the quarter. And with that, I'll turn it back to Paul.

Thanks, Jonathan.

Before we begin the Q&A, I'll ask you to limit yourselves to one question consisting of one part so we can get to as many people as possible.

Operator, let's get started.

(Operator Instructions)

Raimo Lenschow, Barclays.

Question for Carl. Carl, can you talk a little bit about what you see from a geographic perspective in terms of end demand in the different regions? Thank you.

Hey, Raimo, this is Pat and thank you for the first question. And just as we kick off I just want to emphasize what a solid start to Q1 was for our call and we did have just a great way to start the year and reaffirm our guidance for the year. We think this is just a great way to start and Carl maybe you could tackle the geo question?

Yes, thanks, Raimo. Let me give a little bit more color on our performance globally. So overall I think it was just a very solid quarter, we had great execution across the board from our go to market teams and we saw really good bookings growth from both EMEA, Americas, and APJ.

If I were to break that down just a little bit more, we had a solid quarter in the US and we were very pleased with our ELA performance as well as we were pleased with our Federal business growing in the mid teens in Q1.

When I look at Europe, we had good performance across all three regions. I'd probably call out though, Raimo, that in Central Europe and particularly Germany we saw a really good growth. And if you recall last year we spent a lot of time talking about Germany and the fact that we had some execution issues and we put a new leadership team in place. And we're seeing that start to pay off with those changes we made.

And then as if I think about APJ, again another good quarter meaning their bookings plan and target that we had set for them internally and the region I'd call out in APJ this quarter is Japan. We had a really solid quarter in Japan. There was strong customer demand, and it being their fiscal year end really gave us some great results across the board, across all markets, all segments in Japan.

So couldn't be more pleased with the team's execution especially around the ELA execution, bringing in 30% of our bookings through ELAs is a great start to the year for us.

Thank you.

Rick Sherlund, Nomura.

I wonder if you could talk about the government contract that drew a lot of attention during the quarter? Did it have any negative impact on you or is it not important in terms of signing up the individual constituent agencies?

Rick, this is Carl; I'll take that one as well. So Rick, to your point as most of you guys know, the government did release a RFP that was specific to VMware for a large ELA that would cover multiple agencies. In the end they decided to cancel the ELA due to a number of protests that came in against this large contract. They have indicated they are intending to move forward with the VMware ELA after they evaluate all the protests.

Taking it just a tad bit further, in the last now, I guess this is the third quarter in a row, specifically I called out two things about this ELA. The first is we never let a quarter or our guidance be dependent on a specific or a single deal. And secondly, we didn't necessarily control the timing, if you will, of this ELA. That's something the government controls, and that is the same as we sit here three quarters later talking about this opportunity.

With that being said, we continue to work with all of the different agencies across the Federal Government. Some of them could participate in the ELA if it came out and it was closed and some may decide not to. So we have to work across all of the different agencies in the Federal Government. And we're very pleased with our performance. Despite the ELA not coming to fruition in Q1, we had a very good quarter in Federal growing the business in the mid teens.

So we continue to power along despite this thing out there for multiple quarters. And going forward, again we look at our total pipeline, we don't look at a specific deal as we think about our guidance and our forecast in any given quarter.

Brent Thill, UBS.

The tone of this Q1 is a little different than last Q1 and I'm curious if you could talk a little bit about how these new solutions are entering into the customer conversation, and the confidence of them moving forward with VMware. Just be curious to get a little more color as those conversations are happening. I know you don't give all the metrics out but how you're seeing that build in terms of the backlog of these new solutions on current deals this quarter.

Yes, thanks, Brent. I'll start that and then ask Carl to give a bit more specifics. But overall and I think you are right, this Q1 definitely has a more positive tone than last Q1. And with that we definitely are seeing that the broadening of our portfolio, as Jonathan has talked about, the broadening of the no naked vSphere, the presence of NSX and vCloud Air and VSAN and AirWatch and our management products; all of those are contributing to the broadening and strategic role that we play with customers.

And as Carl commented, obviously the ELA performance is one metric of that but the strengthening of our strategic relationship with customers is clearly seeing momentum build. And as a result, we feel good as we begin the year that that momentum sets us up well for the rest of 2015. Carl, maybe a few more specifics on the new product areas?

Yes. So Brent, I think you're pretty accurate reflecting on the tone of this call versus Q1 of last year. Last year we had a good print from a revenue perspective but we highlighted we weren't pleased with our bookings. Performance and a lot of that we said was self-induced just because we had a lot going on in the quarter and we probably didn't perform and execute at the level we expected.

This Q1 again, just great performance across the board, both in our ELA business bouncing back to 30% of our total bookings. And we actually had a solid quarter transactionally as well powered by things like VSAN as well as AirWatch performance in the quarter. So a different tone and again, just really proud of the teams and how they were able to execute, especially on the large deals, because we all know Q1 is seasonally a tough quarter for tech companies. But we came through this one in very good shape and we're off to a great start to the year.

John DiFucci, Jefferies.

Listen, the results look good, strong cash flow and top line, bottom line. But just because I'm getting inundated, guys, and your stock was originally trading down a little bit, now it's up. But seems to be a lot of questions around the billings calculation. And thanks, Jonathan for going through that in that table is in the press release too. But especially around license billings, ELAs as a percentage of total billings were actually up. We got that number on the call even after a very strong fourth-quarter, ELA quarter.

And it sounds like you got a lot of really good momentum going here, but why were the license billings growth a little lower this quarter, I guess than more recent quarters? And I guess you've given guidance, so I think we should think about that going forward. It sounds like things are in good shape, but can you explain a little bit more why license billings were a little bit lower growth rate than we've seen?

Yes, sure, John, this is Jonathan. I appreciate the question, I was expecting currency to be the first three questions on the call, but appreciate not having to do that.

So as we talked about last quarter, we do see FY15 seeing slightly more accelerated growth rate in the second half versus the first half. And that's very consistent with the guide that I've given for Q2 and also for the full year. And you'll be very familiar with the fact that we talked about this phenomenon actually in 2013 and 2014. We performed well in both of those instances. And for license revenues and license bookings I was expecting slightly more pronounced effect again with acceleration in the second half.

A couple of things driving that. One, the first one right off the bat is FX. FX is having a stronger impact, negative impact, in the early parts of the year because of the year-over-year compares. We've got a 7-point impact on license revenues as an example in Q2 year over year, and that's a pretty big delta as you can imagine. Same sort of impact as I disclosed in the quarter in my prepared remarks on bookings.

And we talked last quarter also about the effect of some ratable transactions, plus some deals that ended up closing earlier in Q4, that have an impact in our bookings reported in Q1 in particular. But as we think about the back half of the year what I get excited about is the strength of the new product areas and expect those to have a more meaningful impact as the dollar size of these product areas become bigger.

NSX, VSAN, vCloud Air, et cetera, all are expected to have a bigger impact as the dollar size and dollar contributions of those business areas becomes more significant in the back half of the year, John. So hopefully that gives you a sense of how we see that acceleration being set up as we go.

It does, Jonathan, thank you. But I just -- are you seeing the momentum early this year that'll take you into the second half in these newer product areas?

Well, I'll let Carl comment a little bit more expansion on what he's already said, but when you think about the momentum we've been seeing in areas like NSX, yes, we're off to a good start. The Geo has performed extremely well this quarter. We're starting off the year as we planned, so very consistent with the guidance we're laying out.

Yes, John, just on the products, again we're still in the early innings of this baseball game with a lot of these new products. We see a lot of potential in the market for them and we are starting to see our ELAs include some of the new technologies.

For example, I think we saw 8 of our 10 largest ELAs include NSX, and these are revenue-generating NSX customers who are deploying it deep into production. We were pleased with the transactional side of the VSAN business. AirWatch continues to deliver against all of our metrics that we have internally. That acquisition is paying off in spades. And vCloud Air and the vCloud Air network, partners that we have continue to perform as we expect. And we're pleased with the solid start of the year.

And the other thing I would say is that ELA is a great vehicle for customers to add our newer products if and when they're ready to do so. So just because it's not included in all up front ELAs these newer products, it's just a great vehicle to easily amend and add these new products in the future as they're so -- as their timing is ready to deploy this technology.

Great, thank you.

Walter Pritchard, Citi.

Before ask my question I want to make sure I heard you right there, Carl, did you say 8 of the top 10 ELAs included NSX?

That's accurate, 8 of our top 10 ELAs in the quarter included NSX in those contracts.

Okay, great. Wanted to make sure --

I'll even throw in, if you don't mind, Carl, that 9 of the top 10 include an EUC component as well.

EUC and AirWatch.

We're starting to see a lot of AirWatch now be integrated into our ELAs. So the leverage we expected from the VMware core as part of the AirWatch acquisition is paying off and we're very excited about what's happening with the AirWatch business.

Got it. So the question I had was actually around vCloud Air. It sounds like you are happy with some of the momentum there. I'm curious what are you seeing people use that service for today? How do you expect that to change -- or to evolve as you get some more growth in meaningful numbers in the back half of the year?

And then you signed an agreement though with Google; you haven't really talked a lot about what the strategy is there but I'd love to hear you wrap your relationship with Google into that answer because I think some of us are curious where you'll ultimately go with that.

Yes, this is Pat and I'll address that. This was a great momentum building quarter for vCloud Air. We had strong initial response from our Japanese offering with SoftBank. We launched with Telstra in Australia. The most penetrated virtualization market anywhere in the world, so very sophisticated customers a lot of excitement around the vCloud Air service we launched in Germany. So taken together a lot of very strong geographic expansion.

We also had strong product expansion with the on-demand service going live, NSX service, hybrid networking, so a great product quarter as well. And we definitely are seeing that continued very dramatic year-on-year growth rates for vCloud Air starting small accelerating rapidly. But it also is the broader vCloud Air network and that had another very strong quarter as well and that clearly amplified significantly our presence in the industry.

We also had a strong vCloud Air Government Service launch as well, which we were really quite pleased. Literally every agency, every three letter acronym, et cetera, was showing up for the service launch as well. So overall a lot of momentum.

With respect to Google, what we said when we announced that in Q1 was later in the year, we will begin to offer four Google services through vCloud Air and object service, DNX service, big query, and no sequel offering. And those will come on later in the year, so we'll be updating you as those services become available. But we believe that's a very strong offering to further extend Google's presence into enterprise and further enhance the vCloud Air offering with the largest network and cloud offering on the planet. So we think this is quite a marriage made in heaven and we're excited to see it come into the market together with us.

Great, thank you.

Kash Rangan, Merrill Lynch.

The awareness of the hybrid cloud seems to be showing up in our surveys as well right alongside Azure right now AWS. So I'm wondering if you could discuss why -- what you're doing at a field level that is causing the increase in evaluations?

And also, for quite some time we've been getting the statistic of non-vSphere bookings, now it looks like this quarter is more in the 55% and the growth rate in that bucket has been very, very strong. At what point are we going to start to see those solid double-digit growth rates manifest in license or should we not expect it because the core vSphere business itself will probably be a flat to declining business. So the growth in the non-vSphere is going to be more than offset by the decline?

What -- should we -- in other words is it unreasonable to expect some kind of reacceleration in licenses given that trend? Or is there a counterbalancing effect? Thank you.

Thank you, Kash, which would you prefer, the first or the second question?

Both if you can.

(laughter) What a surprise, Kash.

You can save time on the follow up. (laughter)

So let me take the first one, then I'll let us figure out how much time. Let me quickly talk about vCloud Air. So we are encouraged that even you are seeing vCloud Air show up in a lot of your surveys and there's a strong customer demand out there.

I think one of the reasons is we've done a really big push to educate our field on the value proposition behind VMware, it's not vCloud Air necessarily but our hybrid cloud services. And we think we have a clear differentiation against all cloud providers in the way that we can actually manage both on premise and off premise in a very similar way with the same operating procedures, same operating model, and same support structure.

So now we can go into our customers and talk about the strength of VMware and not really dictate or try to push them in one direction or another, either on premise or off premise. We truly talk about it as a hybrid cloud. And we're also being a bit more aggressive in how we compensate our field around vCloud Air and we'll continue to do so as we pick up momentum going forward.

And Kash, I'll give you the bonus half question, how about that? So I suspect it's a question on everybody's mind. So you talked about when you asked about the mix of the business beyond standalone vSphere and that has been a metric we've been sharing now for I think at least 18 months, a couple years maybe, and it is really pleasing to me to see the performance and the diversification that we're bringing to the business. And you're right, around 30% of our license billings now coming from areas beyond standalone, excuse me, greater than 55% growing at greater than 30%.

And so the key thing there is, as we shared at various analyst days over the last couple of years, is while compute did do well this quarter, it is still -- while it's less than 45% of our total billings, it's still a big, big piece of our business and not growing at that same rate by any means. So you've got a very strategic layer in our technology stack but it's strategic and not necessarily going to be a growth driver for us in and of itself.

It's an important platform from which we extend areas like storage and networking and management and end user computing, et cetera, and obviously the hybrid cloud we just talked about. But it's not in and of itself going to be a major growth driver for us going forward. It did do well this quarter which we were really pleased about when we think about the technology of compute.

But when we think about what really drives growth for us going forward it is going to be those bigger areas and obviously we've got a math dynamic of greater than 55% of our business growing at 30% and under 45% of our business growing substantially less than that. So it's a math dynamic. What drives growth for us in the long term is those newer areas we've been talking about now. And that's why we are particularly bullish on areas like NSX, et cetera.

Phil Winslow, Credit Suisse.

So, speaking of the areas that you're more bullish on like NSX, I was wondering if you could provide us an update on both VSAN and NSX? Last quarter I think you said you exited with 400 NSX customers, I think it was north of 1,000 VSAN. Wonder if you could provide us an update maybe on those two metrics and also the color of how you think of where you are at the end of Q1 and how you're thinking about the progression of the year? Thanks.

On -- this is Pat, on NSX, we had a very solid growth year on year. We continue to see great interest on the part of customers, growing number of customers in production and at scale. Pilots underway with the largest enterprise and service providers on the planet. Use cases like micro segmentation continue to resonate extremely well with customers and really addresses maybe their biggest need is addressing security issues.

And I'd also say we see emphasis not just in VMware environments but OpenStack and bare metal use cases as well. And as Carl already mentioned, 8 of top 10 deals this quarter included NSX.

And with that we're not updating the metrics in terms of number of deals or run rate this quarter. We'll do that periodically as we hit major milestones, so you'll see us doing those at appropriate moments into the future. But overall, this is a winning product that's gaining momentum and clearly on the other side of the inflection point of the interest in the industry.

With respect to VSAN, also good customer interest, healthy transactional quarter. This is a component of what Carl was describing with the strength in our transactional business. We saw hundreds of customers add the technology this quarter. Virtual SAN 6, our big product launch in Q1, was a big deal. So customers were clearly waiting for it and looking for the key capabilities that were part of that.

Also with VSAN, it is a component of our overall software defined storage strategy of which the VVol rollout that we did as part of our big launch in Q1 was a key component as well. And we're seeing the Array technologies take advantage of that capability and momentum build there.

And finally on VSAN it is central for EVO:RAIL and EVO:RACK and both of those are -- on EVO:RAIL very solid start, momentum building for that. And EVO:RACK you'll see later in the year.

Heather Bellini, Goldman Sachs.

I was wondering Carl or Pat, if you could talk about -- you mentioned the growing base of POCs for NSX. And I was wondering if you could help us understand where some of these are in terms of go-lives? And what specifically can you point to that's helping to fuel the acceleration in POC adoption? Because it really does seem like over the last six months, it's really kicked into high gear.

Yes, so I'll start and then Pat, you can add color if you think I missed anything. So thanks, Heather for the question and yes, indeed we're all excited here at VMware about the momentum we see across NSX. And we do continue to see in all three geographies, not just in the Americas but Europe and APJ, we continue to see a big increase in our proof of concepts and our evaluations for NSX.

And a number of them are in the area of micro segmentation but there's also a significant demand for NSX around two other areas. One is just business agility. Today the bottleneck in the data center is the networking and how long is the provision all the networking services in with NSX. People can now deploy literally their compute virtualization with networking service in minutes as compared to days, if not months.

And then the other one is people are absolutely looking to get a better return on their invested capital, meaning they're trying to extend or preserve their existing network infrastructure. But all of the benefits of network virtualization through the abstraction that we're providing, and that's a very powerful use case for our customers. So, those combined with some of the things that Pat talked about earlier around NSX is what's giving us a lot of excitement and energy around it.

And then the last one I would say is, anyone who is building what we describe as a greenfield data center where they're implementing a net new infrastructure, almost all of those customers are looking to deploy network virtualization from the get go. And we are in just about every one of those conversations and seeing people deploy it as they look at a new reference architecture for the future to deliver cloud services.

Matt Hedberg, RBC Capital Markets.

I want to circle back on EVO:RAILs. It seems to be doing well here. I'm curious if you could talk a little bit about the pipeline ramp there with partners and then the competitive environment overall for hyper-converged infrastructure would be helpful. Thank you.

Yes and EVO:RAIL, it is getting a lot of interest. It's still early. We're very happy that almost all of the QEPs as we call them, the partners, that we have nine partners, almost all of them are now shipping. And so their pipelines are ramping. The pipeline is building and expanding daily, so we are seeing that momentum ramping into the industry.

I was just in Asia last week and several of the partners launched their Asian versions and presence of the product, so that is good. So we do feel that being the case.

Obviously, there are competitive alternatives in the industry as well. And with those, we clearly say a number of those are coopetition, where many of those are selling into VMware accounts, so VMware clearly is benefiting from them even as we have a offering with our hyper-converged EVO:RAIL through our partners that is a more complete, easier-to-use and clearly a more accelerated offering into the marketplace.

We do expect that this will ramp up quite significantly as the year goes forward. And as we conclude the year we think this will be a very big piece of the overall hyper-converged markets will be represented by EVO:RAIL. And as I've already indicated EVO:RACK will be coming forward in the second half of the year which will take that same appliance like ease-of-use and bring it to data center scale with the EVO:RACK solutions and the partners we will be announcing as part of that offering at VMworld.

Mark Murphy, JPMorgan.

Carl, the field level research on NSX and VSAN and Horizon and some other areas is very, very robust. I think it gives us good confidence that VMware can realize this vision of the software defined data center. But where I think at times we're struggling to weigh the growth of those products against the larger and more mature vSphere revenue stream and try to determine at what level the growth trajectory of the business might bottom out.

So, I'm curious relative to the -- you've given us this 7% adjusted billings number which is adjusting for FX and other factors and I think that's a bit lower than we're accustomed to. Do you think it is possible that you're putting in a low water mark on that trajectory for this year or is it possible that we would still see some of those adjusted numbers in a single-digit range?

Mark, maybe I'll take this and then you can -- Carl add more about NSX if you would like. But Mark, I'm glad you called out the calculation because we knew there was opportunity for confusion. And just to make sure everybody's got it, because we know everybody's going to be calculating those -- what we call external billings numbers or the calculated billings numbers 7% year over year and -- for total and 9% year over year for license taking into account foreign exchange of basically around 5 points on the FX alone. And then the effect of the acquired deferred revenue of AirWatch.

We're not guiding on billings as we know, or as you know, which is very consistent what we've done for multiple years. I think the most important guide that we're sharing with you as far as top line performance is the revenue outlook. And as you'll note we haven't changed that with the exception of the impact of the historic movements in foreign exchange that we've been seeing. So we're sticking with the guide we've given, we're confident in the outlook and I think the results for Q1 are off to a good start with the slight beat that we've just announced. Do you want to add anything specific on NSX?

Yes Mark, you mentioned a couple products you're seeing some good traction or you're hearing about traction in the market around VSAN, NSX. Pat and I both covered both of those already.

And then the other one is around end user computing in general. We grew the business as a whole greater than 50% year over year and that's a combination of the desktop business as well as our AirWatch business. And if you just look at the desktop business on a standalone basis, it grew greater than 15% year over year. On both the desktop and in the world of enterprise mobile management, we think we're doing very, very well and we're taking share from the competitors in both of those spaces. And that's driving to a lot of our transactional success.

And we're also, as we said earlier, starting to see them become part of our ELAs as well. So all of our net new products are starting to gain momentum in the market. We'll keep our eye on them and we'll try to provide as much color and detail as we can going forward on how they're performing.

Michael Turits, Raymond James.

Question on ELAs. It's a good number with 30%. The deferred, long-term deferred growth rate was shorter than the short-term deferred rate, but where are we in terms of the billing duration of ELAs? Are we still billing for something like close to three years upfront on ELAs? What's been the trend on that over time, my concern is whether or not that's been shortening and might have a negative impact on cash flow.

Hey, Mike, I'll start off answering this question, then I'll turn it over to Jonathan. One thing we do track, obviously, is the duration of our ELAs. Meaning one, two or three years and we have not seen any change in the duration of our ELAs. We don't give you the exact numbers as you know, Mike as you indicated, but they're still roughly around that three-year period and that has not gone down whatsoever.

And I think there's two reasons for that. Number one, we do very good at renewing ELAs when they come up for renewals within a given quarter. And don't forget, still greater than and well greater than 50% of our ELAs are net new.

And our customers continue to want to enter into long-term business arrangements with us because they see the strategic direction in which VMware's going. So, we haven't seen any change to the duration to ELAs here in Q1 and I'll have Jonathan give some more color.

And Michael, just to maybe give you a couple data points. When I look at the components of long-term deferreds, the license long-term deferred actually grew at a faster rate than the overall average that you're calculating. The services component was the one you saw a little bit lower and within that professional services deferreds were actually at a lower level.

So while they're a smaller component, they actually grew lower than the average. And so I get a little bit less concerned about that than I think your question infers. Mainly because that's very much tied to projects, it's tied to credits that we've sold customers with respect to engagements with customers and engagements with them on key projects.

So that coming down is actually a good sign in some ways because it shows that customers are consuming those long-term professional services projects that we've had sold to them. So the biggest item that went or that was on the lower end in long-term deferred was PSO as opposed to license which was particularly strong year over year.

And just a clarification.

Go ahead, clarify, please.

Yes, just a clarification, this call when you said that it was the ELA duration stayed around three years, I just really want to make sure we're talking about the billing duration not the contract duration. In other words, you're still billing the same number of years or months up front?

That's accurate.

Yes, that's accurate.

Thanks a lot.

Karl Keirstead, Deutsche Bank.

I wanted to return to the EUC business. The 50% constant currency license bookings is pretty impressive. If desktop was up 15% that would imply AirWatch must have been up a super healthy, call it 75% to 100%. And I have two questions, one is are these bookings growth rates decent proxies for revenue growth for the EUC business? And secondly, Jonathan how confident are you that these growth rates can be sustained in the coming quarters? Thank you.

Well, I think the way to look at the business you are calculating some pretty good proxies. We're extremely pleased with the AirWatch business and the desktop business this quarter and you've got the stated numbers for growth correct. When I think about the revenue growth for the business while we don't break it out, clearly we're seeing solid, solid contributions from both AirWatch and from the desktop business, not just on bookings but also on license and total revenue, so we're really, really encouraged.

I think right now when we think about where the market is, we've been gaining market share over the last couple of years against our nearest competitors in the desktop space. And frankly the momentum we're seeing suggests doesn't feel like it's going to slow down.

When we look at the mobility space, we are the number one player in that space. And with the backing not just of the strength of the technology that the AirWatch team bring to the fore, but also the interaction with the rest of our business we're now starting to see some very solid uplift coming from Carl's core sales team which is really encouraging. And that was one of the key things behind the acquisition and the premise behind it.

So I'd say that I think our end-user computing business is if anything, doing better and this is now the sixth quarter since we've brought the new management team in place and they're really knocking it out of the park.

Yes, and I -- just briefly on top of that, that there is so much untapped market particularly in the mobile space of devices that aren't yet managed that are used by businesses or touch businesses. So there's a lot of space for that continued growth of AirWatch and we're adding more to the product and the portfolio of capabilities.

We're also combining it with capabilities like NSX which allow us to give a secure end-user desktop or a secure mobile experience that we start to really create a reinforcing spiral between the product lines as well. So we're super excited about it independently as part of the overall workspace suite and as it fits into the total portfolio of VMware's offerings.

Appreciate the color, thanks.

Jason Maynard, Wells Fargo.

I want to maybe get a little bit of color on the transactional business. Obviously ELAs came in a little bit better than expected. But curious if you guys can call out any of the trends or pricing or geographic data just around that core transactional business and maybe some of the non-bundled product sales? Thanks.

Yes, so let me take that, Jason. I appreciate the question. So we were pleased not just with our ELA business in the quarter but we were actually pleased with our transactional business in the quarter.

We were really pleased with our VSAN business which is our vSphere with operations management, which allows us to sell a bundled solution for not just compute but how you manage and operate in that environment. And our AirWatch business was very healthy once again and that drove to solid execution across the board on our transactional business.

We continue to see the channel pick up our, if you will, mantra of no more naked vSphere sales. Our channel continues to drive the transactional business very well for us. We continue to incent them to do that and to move away from selling no more naked vSphere.

So just overall we were pleased with the transactional business. And I would call out VSAN as a continued strength. AirWatch is another. And then everything else performed as we expected in the quarter. So, just solid performance across the board both transactionally and with our larger deal business.

Maybe I missed it, though, if I look at the ELA percentage on a year-over-year basis increasing, what does that imply then for the transactional business growth rate? I don't want to mess up the math on it, but what do you guys --

No, Jason, I think it's a good question. I think when you're probably doing your calculations on the transactional business, I'd just ask you to look at three different things.

First of all in Q1 last year, we had a really solid one of our better quarters transactionally. So your year over year is probably a little bit tougher on a compare. But there's also two other things that I ask that you take into account.

It's one, you have to normalize for FX. And then the second is we had a bunch of acquired AirWatch deferred revenue that came into Q1 of last year, that will -- when you do that because that falls into the transactional business, it will show it down more than it actually is when we compare and contrast it internally to our own bookings metrics.

Great. Thanks, Carl, and thank you, Jason, for asking for that clarification. And before we conclude I think Pat will have a final comment.

Yes, thank you, Paul. In summary Q1 was a solid start to the year. We appreciate the time that you all invest with us today and we look forward to speaking with you again in three months when we report our Q3 results. Thank you very much.

And this does conclude today's conference call. Thank you again for your participation and have a wonderful day.