威騰電子 (WDC) 2009 Q4 法說會逐字稿

Good afternoon, and thank you for standing by.

Welcome to Western Digital's fourth quarter results for fiscal 2009.

(Operator Instructions).

Later, we will conduct a question-and-answer session.

As a reminder, this call is being recorded.

Now, I will turn the call over to Mr.

Bob Blair.

You may begin.

Thank you.

I'd like to mention that we will be making forward-looking statements in our comments and in response to your questions concerning our inventory levels, industry conditions and demand, our gross margin and operating expense model, our future investments in technology, products and processes, our future product offerings and market segment participation, our cash usage, our expected capital expenditures, depreciation and amortization and tax rate for fiscal 2010 and our financial results, expectations for the September quarter, including revenue, gross margin, expenses, tax rate, share count and earnings per share.

These forward-looking statements are based on management's current expectations and are subject to risks and uncertainties that could cause actual results to differ materially.

Including those listed in our 10-Q, filed with the SEC on April 24, 2009, as well as additional risk factors reported in the press release, included as Exhibit 99.1 to the Form 8-K we furnished to the SEC earlier today.

We undertake no obligation to update our forward-looking statements to reflect new information or events and you should not assume later in the quarter that the documents -- the comments we make today are still valid.

In addition, references will be made during this call to non-GAAP financial measures.

Investors are encouraged to review the reconciliation of the differences between these non-GAAP measures to the comparable GAAP financial measures and our press release, included as Exhibit 99.1 to the Form 8-K we furnished to the SEC today.

A copy of which can be found under the SEC filings link in the Investor Relations section of our Website at www.westerndigital.com.

I also want to note that copies of remarks from today's call will be available on the Investor section of Western Digital's Website immediately following the conclusion of this call.

I will now turn the call over to Western Digital President and Chief Executive Officer, John Coyne.

Thanks, Bob.

Good afternoon.

Thank you for joining us today.

Our fiscal 2009 and June quarter results continue to demonstrate the effectiveness of the WD business model and the passion, nimbleness and capabilities of the WD team.

In a very challenging year, we were continuously profitable and cash flow positive, despite absorbing $112 million in restructuring charges.

As the economic environment deteriorated and impacted hard drive demand in the December quarter, we initiated actions to reduce our fixed cost structure in anticipation of a prolonged downturn in demand, relative to the previous trajectory of the industry.

The results of these actions, which were largely completed in the March quarter, are reflected in our strong June quarter results.

Prompt and effective action by all industry participants quickly brought supply in line with the new demand levels and also dramatically reduced inventory, by the end of March, to the lowest levels in the last five years.

Inventory has been further reduced in the June quarter, with manufacturers inventory down from nine days of sales at the end of March to just seven days at the end of June.

While distribution inventory, already at historically low levels exiting the March quarter, was reduced by a further 1 million units at the end of June.

WD inventories, exiting fiscal Q4, remain tightly controlled and have declined a little more than the rest of the industry.

With the major adjustment of inventory levels now behind us, supply/demand balance restored and all industry participants appearing to be focused on the fundamentals of supply/demand discipline, profitability and cash management; we have seen some moderation in the rate of price erosion in the industry in the first half of calendar 2009.

All of this heralds a better industry environment as we head into fiscal 2010.

In the recently completed fourth fiscal quarter, the market was much stronger than we originally anticipated in our April conference call, which contemplated a market that was flat with the March quarter.

Actual demand was up 18% quarter over quarter, at 132 million units and flat with the prior year period.

In this environment, we used our adaptability and responsiveness with telling effect.

As we capitalized on this unexpected market upside, which we promptly converted into financial results that significantly exceeded expectations.

This included a return to our targeted gross margin and operating expense business model parameters.

Customer preference for WD's quality, reliability, product breadth and responsiveness drove record shipments of 40 million units, up 27% sequentially and 14% over the prior year period.

Revenue of $1.9 billion was up 21% sequentially but down 3% year on year.

Reflecting the damage done by a year of extraordinary industry price declines, year on year ASP's were down $8 to $48.

While gross and net margins were down 210 and 50 basis points respectively.

However, sequentially, gross margins and net margins improved by 330 and 710 basis points to 19.2% and 10.2% respectively.

While our ASP erosion of $2 in the quarter reflects both a moderation in like for like pricing pressure and a WD mix shift to take advantage of volume opportunities in the emerging netbook market.

Our ability to make acceptable margins at the low end of the market, while at the same time returning to our targeted gross margin and operating expense models, speaks to our advantaged cost structure.

We remain convinced of a continuing long-term increase in demand for digital content storage.

However, it remains difficult to predict the short and medium-term influence of the continuing recession on true demand and historical seasonality.

While we expect that the current quarter will provide continuing sequential growth, we are vigilant about macroeconomic developments that may lead to some choppiness in demand over the next several quarters.

Consequently, we continue to supplement our customer demand forecasts with close monitoring of industry inventory, production and sales data.

And remain focused on further refining WD's ability to adjust supply quantity and mix by product and regional market to ensure that we best serve our customer needs, while we optimize our revenues and margins and continue our quest for sustained, profitable growth.

Our strategy to focus on the industry's highest growth sectors of external storage and mobile PC's, combined with our intense emphasis on quality, cost and efficiency in both manufacturing and engineering, continued to pay dividends.

As our technology and product leadership in these high growth markets served us well in fiscal 2009 and positions us well as we advance into the new fiscal year.

Our consistent profitability and asset management have generated the strongest balance sheet in the industry.

This has enabled us to continue to make substantial investments in technology, products and processes needed to maintain the momentum we have been building over these last few years.

Indeed, despite the fixed cost reductions we made midyear, we have increased our R&D investments year on year.

Likewise, we continue to make prudent, well-timed capital investments to ensure that we have the capability to produce the product volumes, which are required by market growth, increasing customer preference for WD's existing products, and to support our plans to further broaden our product offerings and market segment participation in the coming year.

Throughout fiscal 2009, WD demonstrated increasing returns on its investments in technology, product breadth and production capability, with consistent delivery of compelling first to market products.

The Company maintained its momentum as an industry innovator with the announcement yesterday of another industry first, the 1 terabyte My Passport Essential SE external storage device, which utilizes our newest WD Scorpio Blue, the industry's only 2.5-inch hard drive with 333 gigabytes per platter.

For the balance of fiscal 2010, we have a very exciting set of product plans to further enhance our competitive advantage in the segments we have traditionally served.

Additionally, we will enter the mainstream enterprise market with a family of 2.5-inch 10,000 RPM SAS hard drives.

We will extend our WDTV Media Player product line to further expand this consumer segment.

We have entered into an agreement with HP to design and manufacture a range of HP branded external storage solutions for retail markets, further increasing WD's reach into the consumer space.

In the longer-term, we are already engaged in the development of solid state storage solutions for the enterprise market, which we expect to launch in fiscal 2011.

Before I pass the call to Tim Layden, I want to thank the WD team and our supply partners for outstanding execution in seizing the upside opportunities that emerged in the fourth fiscal quarter.

And for their responsiveness and commitment throughout a difficult but rewarding year, in which we have further strengthened WD in our long-term mission of generating sustained profitable growth.

Tim?

Thank you, John.

Fiscal 2009 brought macroeconomic challenges for the hard drive industry and for WD but these challenges give us the opportunity to differentiate ourselves in the marketplace with our financial performance.

We've consistently portrayed the WD competitive advantages and capabilities in varying market conditions.

These differentiators include our business model, our cost leadership, the adaptability and flexibility of our people, our data-driven approach to identifying and satisfying market demands, our ability to make the desired product available to customers when required, and our willingness and capability to invest in R&D component manufacturing and capacity in order to broaden our product and production base.

Our performance in the last two quarters demonstrates these abilities.

We are now ideally positioned to leverage these strengths and continue to consolidate our position due to our balance sheet strength and our upside potential in unaddressed markets.

For our full fiscal year 2009, total revenue was $7.5 billion.

Hard drive revenue was $7.4 billion.

Shipments were 146 million units.

And ASP was $51.

Nonhard drive revenue, including sales of WDTV Media Players, solid state drives and external sales of media and substrates totaled approximately $75 million.

The corresponding numbers for fiscal '08 were total revenue of $8.1 billion.

Hard drive revenue of $7.8 billion.

Shipments of 133 million units.

And the ASP was $59.

Nonhard drive revenue for fiscal 2008 totaled approximately $271 million, consisting of external sales of media and substrate.

Gross margin in fiscal '09 was 17.9% versus 21.5% in fiscal '08.

Operating income for '09 was $519 million versus $1 billion in '08.

And net income for '09 was $470 million versus $867 million in '08.

Fiscal '09 EPS was $2.08 versus $3.84 in '08.

Net income in '09 included a $14 million in-process R&D charge related to the acquisition of SiliconSystems.

$112 million of restructuring charges.

And $18 million gain on the sale of assets from the Company's media substrate manufacturing facility in Sarawak, Malaysia and $4 million of tax benefits related to the restructuring.

Excluding these amounts, the 2009 non-GAAP net income was $574 million or $2.54 per share.

Fiscal 2008 net income included $60 million of net tax charges related to the license of intellectual property to subsidiaries and $49 million of acquired in-process R&D expenses related to the acquisition of Komag.

Excluding these amounts, 2008 non-GAAP net income was $976 million or $4.32 per share.

Turning to the 2009 fourth quarter results.

Total revenue was $1.9 billion, down 3% from the prior year but up 21% sequentially.

Hard drive shipments totaled 40 million units, up 14% from the prior year period and up 27% sequentially.

Nonhard drive revenue, including sales of WDTV Media Players, solid state drives and external sales of media and substrates, totaled approximately $27 million.

Average hard drive selling price was approximately $48 per unit, down $2 from the March quarter and $8 from the year-ago quarter, while Q4 ASP reflects our response to the robust market demand for mobile and lower capacity desktop products.

The percentage of our hard drive revenue generated by non-desktop applications was 63% in the June quarter, 58% in the March quarter, and 63% in the year-ago quarter.

We shipped 16.9 million 2.5 inch mobile drives in the June quarter, as compared to 10.1 million in the March quarter, and 11.7 million in the year-ago quarter.

These increases were driven by strength in notebook and netbook PC demand, coupled with increased customer preference for WD product offerings.

In consumer electronics, we shipped 3.7 million 3.5 inch drives for use in digital video recorders in the June quarter, 3.5 million in the March quarter, and 4.1 million in the year-ago quarter.

Demand in the nearline enterprise segment exceeded our expectations.

Our lineup of leadership products in this segment enabled us to continue to gain momentum in this market.

On the desktop side, demand was modestly stronger than expected.

We maintained position in this segment.

Revenue by channel was 54% OEM, 29% distribution, and 17% branded products in the June quarter; compared with 48%, 30% and 22% in the March quarter; and 57%, 24% and 19% in the year-ago quarter respectively.

In the branded product segment, we maintained our leading market position, while we focused on pursuing margin enhancement through cost and mix improvements.

There was one customer, Dell, that comprised more than 10% of total revenue.

The Q4 geographics of our revenue was 24% Americas, 22% Europe and 54% Asia; as compared to 26%, 28% and 46% in the March quarter; and 29%, 25% and 46% in the year ago quarter.

Our notebooks shipments contributed to the relative strength of Asian sales.

Our gross margin percentage for the quarter was 19.2% versus 15.9% in the March quarter and 21.3% in the year-ago quarter.

The increase in gross margin versus Q3 came primarily from increased plant utilization due to higher volumes, improved efficiency, cost management and better pricing than expected, while we had some offsetting impacts from product and segment mix.

Total R&D and SG&A spending was $184 million, or 9.5% of revenue.

Up from the March quarter, primarily as a result of increased incentive compensation accruals and SSD engineering additions.

On a year-over-year basis, we were able to fund increased investments in new products, programs, technological investments, SSD engineering additions and higher incentive compensation accruals with the cost savings realized from our restructuring actions.

Operating income was $209 million or 10.8% of revenue, including the $5 million favorable restructuring judgment and $18 million gain on sale of our Sarawak assets.

Interest and other nonoperating expenses were approximately $2 million.

Tax expense for the June quarter was $11 million.

Our net income totaled $196 million, or $0.86 per share.

Turning to the balance sheet.

We generated $1.3 billion in cash flow from operations during fiscal '09, including $349 million during our fourth quarter.

Our cash conversion cycle for the fourth quarter was a positive two days.

This consisted of 47 days of receivables outstanding, 24 days of inventory or 15 turns, and 69 days of payables.

Capital expenditures for the June quarter were $111 million and our noncash charges for depreciation and amortization expense totaled $122 million.

Capital additions for fiscal '09 totaled $519 million.

Depreciation and amortization expense for fiscal '09 totaled $479 million.

We did not report just any shares of common stock during the June quarter.

We exited the fourth quarter with cash and cash equivalents of $1.8 billion, as compared to $1.6 billion at the end of March, as we continued to strengthen our balance sheet.

The macroeconomic situation and the credit markets have not yet returned to normal and we will evaluate cash usage opportunities with this in mind.

We remain focused on putting our available cash to use, primarily through investments in areas that accelerate our business objectives.

Now, I will discuss our expectations for capital, depreciation and tax for fiscal 2010 and wrap up with our guidance for the first fiscal quarter.

We expect capital expenditures for the year to be about $600 million.

And depreciation and amortization to be about $530 million.

We expect our book effective tax rate to range between 7% and 10% and our cash tax rate to be between 2% and 3%.

Now, I will move on to our guidance for Q1 2010.

Positive indicators are emerging for the hard drive industry but forecasting product demand remains challenging given the continuing worldwide economic uncertainty.

With this in mind and taking into account the strength of the demand in Q4, we are forecasting a sequential increase of between 3% and 6% in industry demand, from 132 million units to between 135 and 140 million units.

From a WD viewpoint, it is important to note that we had the benefit of 14 weeks in the June quarter.

Taking this, the market growth forecasts and an expectation of normal seasonal pricing into account, we are forecasting total revenues for the current quarter to be between $1.9 billion and $2 billion.

We are modeling gross margins to be approximately flat with fiscal Q4 2009.

Operating expenses are projected to be approximately $175 million.

Our net interest expense is projected to be about $2 million.

We anticipate our tax rate to be in the middle of the 7% to 10% range and our share count to be approximately 230 million.

Accordingly, we estimate earnings per share of between $0.75 and $0.82 for the September quarter.

Operator, we are now ready to open the call for questions.

(Operator Instructions).

Our first question comes from Steven Fox with CLSA.

Your line is open.

Hi, good afternoon.

A couple questions on digging into second half expectations by market.

Particularly when you look at the external market, how are you calculating or figuring on what the consumer could be doing in terms of external demand for second half?

Any insight there would be helpful.

And then secondly, are you assuming that your strength in netbooks continues in the second half of the year?

Steve, this is John.

Hi, John.

Hi.

I think we're being a little cautious in the 3% to 6% overall market guidance and we're not really seeing a lot of differentiation in our expectations relative to market segment .

On the consumer side, while consumer has been reasonably strong through the first half of the calendar year, we remain concerned that the overall economic environment and potential impacts of that as we go forward.

So I'd have to say approaching our view of the market with a little bit of caution but being positioned to take advantage of opportunities as they arise, just like we did last quarter.

The netbook question, we anticipate that we'll continue to see strength, both in netbook and in the new CULV, thin and light area.

And a general comment about PC, both desktop and mobile, seeing a bit of a mix down, which is a typical reaction to recessionary type

Okay, fair enough.

And then just a follow-up, obviously, like you said, you responded to demand fairly quickly.

Are there any bottlenecks that you've had in the last quarter or that you're worried about, either with you or industry-wide for meeting demand in this current quarter that we should be aware of?

Well, I think certainly the level of demand last quarter exceeded industry expectations as well as WD expectations.

And in order to respond to that, the supply chain responded very rapidly to that uptick but it did place stresses on the supply chain in general.

And so, we're running tight in several areas.

Probably the most notable of those would be glass substrates for the 2.5-inch space, which is the form factor that's showing the most growth.

And also, typically in these kinds of pull-in situations, you stress the long lead time components, such as semiconductor components.

Got it.

Thank you very much.

Rich Kugele with Needham & Company, your line is open.

Thank you, good afternoon.

Just a couple questions.

First, in terms of your target margin model, obviously you've already both reported a quarter there and guided another.

When you look at the $600 million of CapEx, given that utilization played the major role in getting to that point, do you also see you being able to maintain that level going forward throughout at least fiscal 2010?

So the correlation between capital and margin, let me take the margin question first.

We're obviously pleased to be back in the margin range and in the margin model range.

And we did so while shipping a market representative mix, which for us would be a lower mix than historically.

But if inventory is in line and industry participants stay focused on profitability and cash generation, we see ourselves being able to expand into that margin range.

From a CapEx viewpoint, we add capital on a just-in-time basis and we are -- and as you can see, we demonstrated that in the fourth quarter as we -- when we saw a market opportunity.

We spent a little bit above what our expected capital profile was but we will continue to spend just-in-time.

And we are at the moment, at the threshold of what our capacity is because our previous high shipments were somewhere around 39.6 million.

And so, we'll continue to do things on a just-in-time basis and we will make adjustments as we go along.

And you had in the past commented, when it comes to the CapEx, how much was kind of devoted for heads.

There's still, if I remember correctly, some portion of spend that's required to finish that buildout.

Can you just remind us on how the $600 million might break out?

Yes, if you recall, when we started off last year, we had an $800 million capital spending plan.

And that included about $150 million of 8-inch spending per head.

And while we have actually run the pilot line and improved the process, we haven't spent the money in other things, increased the capacity because we haven't needed it at this point.

And it's not in that $600 million number, so consequently -- but we do expect to stay within our model range, which is 7% to 8% of revenue as we go forward.

Okay.

And then just lastly, when it comes to the HP announcement, I don't know how much you can discuss about that product for the consumer market but it seems to be a little bit unique that you're helping them design this.

For a long time, everyone's been supplying many of the vendors the hard drive piece with this.

But is there anything you can elaborate on that and how you see it playing within your own product line or what the response is even within the consumer Best Buys of the world and stuff like that?

Well, in fact, HP has already announced their product line as HP SimpleSave and it will be stocked worldwide in similar channels, HP's retail channels are similar to our own.

We see it as a complementary brand to the strength of the WD brand.

We see it as a way to further expand our presence in that marketplace, given the already very significant market share of the WD brand.

And we're very happy that we've been able to form a strategic partnership with a very well known worldwide brand, rather than relying on the vagaries of the smaller brands that participate in the external storage market.

Will this revenue appear as a branded sale or as a disk drive sale?

It will be in our branded business.

Okay.

Thank you very much and well done.

Sure, thank you.

Sherri Scribner with Deutsche Bank, your line is open.

Hi, thank you.

I just wanted to ask, you guys had a 14-week quarter this quarter and it sounded like from Seagate's comments that the end of the quarter continued to be strong and there was some question about if business got pulled into the second quarter from the third quarter.

I appreciate that you guys have given some conservative guidance for that but I was curious how much of the upside in your units do you think came from that extra week that you had?

Last quarter was probably the most linear quarter we've had in the history of the Company.

So you can take the $40 million and divide by 14, you know how much we shipped in the final week.

Okay.

And then in terms of the revenue guidance, it seems a little bit more conservative than Seagate.

My question would be, do you think that your ASP assumptions are slightly different than Seagate?

It doesn't sound like that you guys think you're going to gain share, or is it just that you're being conservative and because of the second week that your revenue guidance is a little bit lower?

Well, if you take the market growth forecast and adjust upwards for it and then adjust down for the 14th to the 13th week, they practically cancel each other out.

And so we are -- with historical ASP trends in Q1 and with the slight mix up, we get to the numbers that we have.

Okay.

So it's really the extra week that impacts that?

Yes.

Okay, thank you.

Keith Bachman with Bank of Montreal, your line is open.

Hi, guys.

Two things.

The first one for you, John, if I could.

I'm going to ask the same question I asked to Seagate.

If I look at what the TAM did in June, as you said, looks like it's up about 18%.

Intel and IDC and others have suggested that the PC market was up anywhere from 3% to 5% in the same June quarter period.

Clearly, your inventories are in good shape on your books and Seagate's are as well.

How do you respond to some of the challenges that there has to be some extra inventory about -- potentially at the OEM's?

I think you've got to bear in mind that the PC sales increase is a PC sales increase.

Sorry, John, that was a unit number I gave you on PC's.

Yes, unit sales.

And we're heading into the back-to-school period, which typically gets fulfilled from a system build and ship perspective.

The majority of that product is being shipped on ocean and so it's built in the May/June timeframe in order to land, to support the late July/August type sales, sell-through.

So, we are very keenly interested to see the outcome of the back-to-school season because it's very important to validate what we've observed thus far in the year, which is that consumer demand has held up pretty well.

So I think back-to-school is going to be important, relative to understanding what the December quarter supply/demand situation is going to look like, in order to -- if back-to-school is strong, then you could anticipate that there will be further demand to support that end of the year typical seasonal situation in PC.

If back-to-school is weak, then obviously some of the systems that were built for back-to-school will slide to the right a little bit and that could dampen demand as we go into the December quarter.

Okay, fair enough.

Let me ask a follow-up then if I could for either of you.

There seems to be some issues, as you mentioned, around the availability of glass.

John or Tim, is there any view on where you run out of supply?

In other words, if the TAM on the 2.5 increases beyond a certain point, I've gotten some feedback from even mid-60's in terms of units.

Is there some threshold that you think the industry, there just isn't enough supply of glass to fulfill the 2.5-inch market, depending on the size of the TAM in the September quarter?

Well, obviously, if there's some number, that could create that environment but right now, we think there's -- while supply is tight in the industry from a substrate perspective, because there was a lot of capacity taken offline in the December through March period and it's being put back in a very measured way.

I think the real issue is that we work very closely with our supply base to ensure that they understand what the end demand is that we are seeing.

And that that capacity get brought back online in a timely manner to support the demand.

Okay.

Thanks very much, John.

My final one, Tim, real quick one for you.

I don't know if you said this but average ASP in September, is it flat, down or up, do you think, from $48?

In September, yes, we expect that price declines will moderate and we expect that there will be a slight mix up.

So consequently, it will be flat with an upward bias, we think.

Okay, thanks very much.

Rob Cihra with Caris & Company, your line is open.

Hi, thanks very much.

Heck of a quarter.

On the product side, I just had two questions, if I could, one on -- or actually, sorry, a couple on notebook first.

With the 333 gigabyte per platter now launched at least in the branded, two questions there.

One, is that 3-platter configuration, is that kind of just a specialty thing that you see for retail or is that something that could actually become sort of a notebook configuration?

And then also, along the same lines, just with that product now in the retail branded stuff, when do you see that starting to make its way into the PC's?

And then, I had a follow-up, if that's all right.

Okay.

So our choice to develop the 1 terabyte 3-platter 12.5-millimeter form factor was driven by the size of the external market today and our position within that market.

And that justified the development of that product, which is primarily targeted at the external storage market.

And we've seen in the 3.5-inch external storage the huge demand for 1 terabyte is actually the 3.5-inch capacity point that sells the most units in the external market.

And so, provide that capacity with the convenience of no power supply and total mobility and portability, and we believe you've got a winning product in terms of consumer desire.

So, that was a compelling story for us to go do that development.

We thought it was a very significant milestone step in the development of the external storage market.

So that's why we focused on that.

However, there are many chassis today and many chassis under development, which accommodate the 12.5-millimeter form factor.

And so, we do expect to supply this product into a segment of the notebook market as well.

Meanwhile, we continue to develop a full line of products in the 9.5-millimeter form factor to support the broad base notebook market.

And have you started shipping that yet on the notebook side or is that something more in the September quarter or --?

This is Western Digital.

We announce products when we ship them in volume.

You did it on the product, so that's not actually pushing it.

Okay.

Under the category of waiting to announce products, I will just follow it up with the enterprise SAS product, you did say that fiscal '10, you'll be introducing that.

Any -- care to say anything in terms of timing?

Given how long qualification cycles are and that sort of thing, is that the type of thing where you'll talk about quals or is it something that you'll just talk about shipping or is it any kind of towards -- is it something that's still a calendar, fiscal '10 but calendar '09?

Well, again, what we will talk about -- when we're in volume production shipments of production product, we'll talk about that.

Right.

Okay.

All right, thank you very much.

Sure.

Christian Schwab with Craig-Hallum, your line is open.

Great, thank you.

Good quarter, guys.

Thank you.

John, can you just elaborate on your comment, in your prepared comments on what your thoughts are for demand over the next few quarters?

I think you said that you would expect choppy demand over the next few quarters after a pretty historical linear June quarter.

Could you just elaborate on what your thoughts are for the next few quarters?

Yes, I think -- it's not so much that I -- we're concerned that with the overarching economic environment, it's difficult not to prepare ourselves for a W rather than a V.

Although we do anticipate that the second dip of the W will be significantly less from the first dip.

But I think it's -- it would be fantastic but maybe a little unlikely that we're going to see an uninterrupted growth path from here.

I think the other thing that we're grappling with a little bit is that, certainly since the December quarter, so December, March, and June quarters, have all been nonseasonal from an historic sequential growth or reduction perspective.

So, we're looking at the September quarter from the perspective of unusual strength in the June quarter, potentially dampening the sequential growth into the September quarter.

All that being said, we're spending time talking with customers, listening to their inputs relative to their business and their expectations but we're spending equal time, if not more time, focused on our flexible model that can respond to the real demand as it shows up.

And I think the nimbleness of our model should be visible when you look at the fact in April here, we were looking at a market we expected to be flat sequentially, that turned into an 18-point opportunity from an overall market point of view.

And our execution turned it into substantially something more for WD.

Great.

In those discussions with your customers, are you getting any feelings of how they would expect the December quarter to play out as it regards to typical seasonality?

I think it's a bit early to go to December.

Great.

And then one last question, if I may.

Along the same lines of discussions with customers, when are they telling you that they would hope to experience or see, or even if they expect an improvement in demand on a PC refresh due to the release of Windows 7?

I think most of the commentary we've got relative to Windows 7 is more an issue of when businesses begin to spend again in the IT sector.

I think it's -- so the indicator I think will be uptick in enterprise, followed by kind of PC client systems spending in the commercial sector.

And I think the more important driver is company confidence about the recovery from the recession than a trigger such as Windows 7.

I think Windows 7 may drive a little bit but I think the overarching thing is how our business is performing in recovery mode and how rapid is the recovery and how confident our business is that the recovery is sustainable?

And I think that's going to reflect a refresh much more.

Great, thank you.

David Bailey with Goldman Sachs, your line is open.

Great, thanks a lot.

You've commented on the moderation in pricing in both the June and your expectations for the September quarter.

Can you give a little bit more detail of any variance by segment within the pricing?

We don't actually give out that level of detail, David.

But if you'll recall, in the last quarter, we indicated that we were driving towards margin modeled with our different segments.

Where we were looking at it in three tiers.

Where the actual top tier consists of enterprise and SSD.

The midtier consists of the consumer, which is PVR, DVR and branded.

And the lower tier consists of notebook, netbook and desktop.

The reason for that because the purchasing power of the customers in that particular tier.

And we're -- of the six tiers we have, there is one that is above the upper end of the margin tier and there's one that's slightly below the lower end of the margin tier at this particular point in time.

Okay.

And then when you think about the gross margin going into the September quarter, you're looking for that to be flat but volumes are going to be up.

Is there an offset there that sort of pushes it down a little bit to keep it flat Q over Q?

Well, volumes are going to be pretty much offset by our 14 to 13-week movement.

As I indicated, the expectation in the market increase is 3% to 6%.

If you convert from 14 weeks to 13 weeks, it offsets -- there's a downturn of about the same amount.

Then we do expect that pricing will moderate.

We expect mix to be a little bit better and that's how we get to the number.

Great.

Thank you very much.

Aaron Rakers with Stifel Nicolaus, your line is open.

Thanks, guys, and congrats as well.

A couple questions.

I want to understand what you guys are seeing in the 2.5-inch market.

If I look at what Seagate said about the TAM, it looks like you guys now could have been right around 30% share in the 2.5-inch market.

So can you help us understand what you're seeing from a competitive standpoint, share shift and whether you think that you can continue to take share in that 2.5-inch space?

Well, I think -- obviously, our results reflects customers who wanted to buy our product.

We believe that the availability of that product was one of the critical factors there.

We believe that the consistency of our quality, reliability, availability, flexibility in that, and competitive overall pricing and a very strong product portfolio, a very strong Company and a very strong product road map.

We think all of those things play into the strong customer preference for WD and we believe that's sustainable.

Let me ask you another way.

I think that we've seen some share shift play themselves out with Fujitsu and Toshiba and that combination now expected to close in August.

Would you agree with that and do you believe that there's further share shift still to play out from that combination?

Yes, I think the data is shaping up.

Seagate, ourselves and HGST have reported numbers for the quarter and when you look at all of that, it appears that of the three remaining companies, Toshiba, Samsung and Fujitsu, that there has been share loss there.

We have to wait for them to report specifics to understand where that share loss has been.

Okay.

Fair enough.

And then, final question for me.

On the retail side of the business, if you just -- given what you're disclosing for percentage of revenue, it looks like your revenue was down somewhere around 13% on a sequential basis.

And that looks like it's a little bit below what we saw to Seagate.

So can you help us understand the sequential pattern in your retail business?

Was there any destocking of inventory?

Was there any dynamics within that that caused that to be down on a sequential basis midteens?

Yes, on a quarter over quarter basis, we did reduce the level of inventory in the -- in our branded channel deliberately.

The other area to mention, probably in the last 18 months, the branded segment has been the one with the most competitive pricing dynamic across and five out of those six quarters had double-digit price declines.

So while our unit volume is still strong in that area, unsustainable highly competitive price declines, which have been an issue over the last year, a little over a year, the effect of that is that we are maintaining our share in that market and we believe the other drive companies.

We think that this whole dynamic is going to change that market significantly into one served primarily by the integrated drive companies.

Every drive company in the world now has an active program to go directly to consumer under their own brand name.

And so, what it appears is that the smaller companies that are predominantly regional players who buy drives at the component level, their ability to sell gigabytes is compromised when the drive companies go into that market.

So, they need to find a real value to offer to the consumer, such as some kind of high engineering, functionality, small niche product areas that the drive companies may not yet be addressing.

Okay.

I'm going to sneak one last one in.

In your long-term gross margin guidance of 18% to 23%, is that inclusive of moving into new markets?

Meaning, as you move into new markets, we would still expect a range -- that being a range going forward?

Is that a fair assessment?

Yes, the 18% to 23% was our historical segment mix.

So consequently, there is margin expansion opportunity if we enter new segments that have got gross margins that are higher than our average Company gross margin at the moment.

Perfect.

Thank you very much.

Sure.

Mark Moskowitz with JPMorgan, your line is open.

Yes, thank you.

Good afternoon.

Two questions if I could.

The first one is kind of a two-part.

And I just want to get a sense if you can shed more light on the customer buying the dynamics right now in terms of; One, are you seeing more PC OEM's use a boat to ship in the June quarter and could that be a wild card as far as how it impacts September?

And then, secondly, are you seeing customers look for more bundling, ie.

trying to get more of the notebook and desktop procurement at the same time for a better price?

Well, I think the -- to look at the -- typically the consumer market has a higher level of defined SKU's in it.

Right?

So for the retail market, manufacturers tend to build a specific configuration of product and those predefined products tend to ship ocean to minimize the freight costs.

And typically, those ocean freight shipments are timed to coincide with particular promotions in the retail channel.

The more configure-to-order type business tends to get shipped air and then configured in-region or shipped air preconfigured.

So that was the first one.

The second one was the desktop and notebook.

I think certainly, the large OEM's appreciate the value proposition of large suppliers with broad portfolios who have significant ongoing investment in the future of those broad portfolios in order to be able to support their businesses robustly into the future.

And so I think there's -- for many years, you've seen a progression of the large strategic OEM's putting more business towards the large vertically integrated, profitable, strong drive companies in order to secure their futures.

As a follow-up to that.

Is that helping you, John, in terms of having the luxury of being able to kind of pick and choose your revenues here versus some of your peers?

Do you have some distractions, if you will, in terms of you're able to pursue the higher margin concentration out there?

Well, I think what we -- to Tim's comment earlier, what we did last quarter was to ship pretty much in line with industry mix.

So from an average gigabyte shipped, both in the 3.5-inch and 2.5-inch environment, we were pretty close to the industry average.

And certainly, that offers opportunity for mix up should we choose to go there.

Historically, we've tended to be mixed up a little bit from the industry average.

Okay.

And then, the second question is kind of building off of Aaron's previous question regarding the longer-term operating target model.

I want to get a sense, with the entry into the enterprise class disk drives, just given your peer and the very significant profit pool that they do derive from this marketplace, how should we think about WD in terms of the OpEx investments required?

I think, typically, the enterprise is a little more top heavy on fixed costs as it relates to OpEx but I presume that the gross margin offset is pretty significant.

Is that fair to think?

Yes, we have been investing.

I think John has mentioned this a number of times in the past couple of quarters, that we have already been investing in order to enter that marketplace.

There's probably some selling support that has to be added to the OpEx in order to be able to provide the type of support that those customers need.

But substantially, the expenditure in order to execute that business is already in our run rate.

Thank you.

Thank you.

The next question comes from Katie Huberty with Morgan Stanley.

Your line is open.

Thanks, good afternoon.

I want to follow up on the conversation around the unit upside in June.

It's clear that you believe those units are going into product for back-to-school but historically, if you look at the PC and the drive shipments in the June quarter, they move much more in tandem.

So I want to understand what was different this year?

Was it timing of some of the new notebook products that had to build volume?

Was it OEM's worried about product availability if they build early or was it something else that drove the more significant disconnect between drives and PC shipments?

Well, I think there's several considerations.

First, the last three quarters have been totally atypical from an historical perspective, so it's very hard to answer a question that supposes everything should be seasonally normal.

Second, the inventory in the drive industry, both in the OEM channels and in distribution is at an all-time low.

It's running approximately 50% the level that existed throughout the entire year last year.

We think that's having an effect.

And certainly, we know that the PC guys also did a lot of heavy braking in the December and March quarters and are also trying to accelerate into demand.

And when you do that, they are experiencing some spot shortages in LCD panels, in memory, in hard drives.

And so, yes, there may be a little bit of holding of inventory within the OEM's while they match up all the things that are short.

It's unsafe to run everything to the most short component because as soon as you solve that, you've got to run off and solve the next one.

So people tend to set their overall objective source to that.

And as they fill in specific shortages, they match it up with components they're holding temporarily in inventory.

So I think all of those things are playing together to -- have created some incremental demand in the June quarter.

The really important thing I believe, from a drive industry perspective, is that we've further reduced inventory coming out of the June quarter.

So in historical times, when those large surges in demand occurred, typically, inventory got provisioned out of multiple of that demand.

We're not doing that this time.

And would you expect that inventory levels, on a secular basis, have declined or are there some potential flags that the channel and that you and some of your peers are looking for in the back half that would perhaps cause you to build back up inventory levels, be it demand and balance of all the different components mentioned?

I think there would have to be a very strong conviction that the recession was over and that a predictable, sustainable level of go-forward demand and traditional seasonality was back; to have us even approach traditional levels of inventory.

Got it.

Thanks so much.

Jayson Noland with Robert Baird, your line is open.

Thank you.

A question on factory utilization first.

I assume with a record units ship, utilizations were high but John, can you compare the efficiencies on yield and test time to that factory utilization?

Yes, I think the important thing to note is back in December, one of the decisions we made anticipating lower revenues, as well as lower unit volumes, was to close one of our factories in Thailand.

And that factory has not yet been recommissioned.

So, we actually produced a record output of hard drives in a smaller factory footprint than we've ever done before.

And that was deliberate in the sense that by constraining the available factory footprint, that creates an environment in which innovation and productivity need to continue, even in a soft market.

And so, we benefited from that in driving yields, utilization, test times, efficiency, all of those things through the last quarter by putting that constraint on our overall capacity.

Now, given where we now are and the progression of average gigabytes shipped that carries on quarter to quarter, we will be recommissioning that facility this current quarter.

Okay.

And then, just one last question for me on SiliconSystems, maybe an integration update.

And you've mentioned F11 from an enterprise SSD perspective but is there anything that we should expect from a progression standpoint in fiscal '10 on SSD's?

Well, we're going to continue -- the integration is pretty much done in terms of transferring SiliconSystems as the solid state storage business unit with NWD and transferring all of the financials, the business activity onto the WD systems.

That's all complete.

We did launch a new range of solid state device, the SiliconDrive III just a month ago.

And we intend to continue to grow the product line and participation in the traditional SiliconSystems market, which was the embedded storage market, which is a complete new set of customers for us, primarily NetCom, industrial, military.

And so, we'll continue to prosecute that business.

We'll continue to roll out new products to support that business while we work on the engineering for the launch of a product into the traditional enterprise space.

Sorry, just a follow-up there.

Should we expect to see any relationship between qualifications in your SAS and SSD initiatives?

Thank you.

Well, I think -- it's important -- we're approaching that marketplace.

As we enter the mainstream enterprise space, our desire was to be able to present a road map to our customers that gave them assurance of a commitment to that space and our ability on a long-term basis to satisfy all of their needs in that space.

And I believe we're doing that with a family of the 10-K SAS, complemented by solid state for the high performance end of that space.

Thanks, John.

Well, thank you, all, for joining us today.

We look forward to keeping you informed of our progress in the quarters ahead.

Thank you very much.

Thank you.

This does conclude today's conference.

You may disconnect at this time.