威騰電子 (WDC) 2010 Q3 法說會逐字稿

Good afternoon, and thank you for standing by.

Welcome to Western Digital's third quarter financial results for fiscal year 2010.

Presently, all participants are in a listen-only mode.

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

(Operator Instructions) As a reminder, this call is being recorded.

Now I'll 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 industry inventory, pricing and demand, our position in the industry, the impact of our entry into the traditional enterprise market, our investments in technology and capacity, our response to customer needs in existing and new markets, our expected capital expenditures, depreciation and amortization and tax rate for fiscal 2010, our share repurchase plans, our financial results, expectations for the June quarter including revenue gross margin expenses, tax rate, share count and earnings per share and the impact of the European air traffic disruptions.

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-K filed with the SEC on January 29, 2010.

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 comments we make today are still valid.

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

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

Thanks Bob.

Good afternoon.

Thank you for joining us today.

Overall demand for hard drives in the March quarter was stronger than we anticipated at 163 million units.

As we saw sequential industry turn grow 2% in contrast to a typical seasonal decline of 5% to 7%.

This adds support to the growing body of evidence that in the midst of significant economic uncertainty over the last 12 months, the creation, transmission, consumption and storage of digital content has become much more pervasive in our lives than anyone had previously appreciated.

Over the last year, we have seen increasing levels of demand for high capacity, cost effective storage.

We believe this demand is at core driven by the ubiquitous role of digital content in everyday life.

Spurred in the consumer segment by increasingly versatile and powerful handheld devices and PCs with new and attractive price points and in the commercial sector, by a drive for growth and efficiency, especially in developing markets.

Industry inventory, OEM, distribution and retail combined remains at just over two weeks of sales, reflecting continued strong demand, continuing spotty constraints in the industry supply chain and continued industry discipline in managing the supply demand dynamic.

For more than eight years now, WD has generated sustained profitable growth and outstanding returns for our shareholders by consistently executing to our customer-centric business strategy with passion, focus and perseverance.

Customers continue to demonstrate a strong preference for WD products in the March quarter, and this enabled us to again post record unit shipments and revenue with strong profitability.

We are very pleased that in such a dynamic environment, we again helped our customers to success in their markets by responding quickly to their changing requirements for volume and mix.

A relatively moderate pricing environment, combined with our cross segment agility and our focus on cost and efficiency once again enabled gross margins above the high end of our model range.

Asset management remained crisp, resulting in record cash generation.

We continue to innovate and lead in multiple markets based on the significant investments we have made in people, products, processes, capacity and technology over the last few years with several recent notable product achievements.

In our client business, we began volume shipment of the industry's highest aerial density standard two disk 2.5-inch drive, the 750 gigabyte WD Scorpio Blue hard drive for mainstream notebook computers.

We doubled the capacity of the WD VelociRaptor, the world's faster SATA hard drive to 600 gigabytes, delivering high performance and capacity for both enthusiast and enterprise customers.

We launched our first consumer oriented solid straight drive family, the WD Silicon Edge Blu in capacities up to 256 gigabytes.

In our branded products business, this week we introduced a new app for the iPhone called WD photos.

A photo viewer that gives our customers quick access to all of their photos stored on their MyBook world edition or WD share space network drives from their iPhone or iPod Touch.

Also specifically designed for Mac users, we added a new high speed My Passport Studio family and a one terabyte Passport SE to our range of popular hard drives.

In the CE market, we launched the WD AV 25 range of 2.5-inch sata drives engineered specifically for demanding, always on, multimedia streaming applications such as DVR and surveillance .

We also introduced the My Passport AV media drive family optimized for video storage and playback and designed to work directly with select Sony camcorders, Blu-Ray players and other popular media players.

In the embedded market, we introduced the WD silicon drive of N1X family of SLC based solid state drives with capacities up to 128 gigabytes, delivering high performance and high reliability for embedded system OEM applications.

Our participation in the traditional enterprise market, part of our portfolio diversification and expansion strategy which started with the shipment of our 2.5-inch 10-K SAS product line beginning in early November is proceeding in line with our measured multi-year plan to establish solid experience and a representative share in this important market segment.

We remain committed to continued investment in the development of our people, technology, product breadth and appropriate capacity while enhancing the advantage business model we have developed over the last several years.

In responding to our customers' needs and earning their business in the fastest growing markets, we provide a critical combination of quality and reliability, portfolio breadth, technology and product availability, underpinned by our low cost model, our vertical integration, our rapid inventory turns and our balance sheet strength.

We believe this WD focus represents a sustainable advantage as we continue to respond to customer needs in our existing markets and as we move into new markets for WD.

We believe that calendar year 2010 will be an extremely strong year for storage, and we are excited about the opportunity to continue to satisfy customer requirements to meet this demand.

Before I pass the call to Tim Leyden, I want to mention that tomorrow, Friday, April 23, WD will mark its 40th anniversary, spanning four decades of innovation, passion, perseverance and success.

I want to acknowledge the contributions of our thousands of employees, our customers and suppliers in helping us every step of the way.

In particular, I want to acknowledge the team's outstanding execution in seizing the customer opportunities that emerged throughout the recent quarter which has further strengthened WD in our long term mission of generating sustained profitable

As John noted, the overall market was stronger than anticipated during the March quarter.

Once again, our agile business model allowed us to scale up our supply and adjust our mix to respond to the demand in the more robust segments of the market.

This, combined with mode rate price declines and our low cost focus contributed to margin exceeding the upper threshold and our model range and our implied guidance.

Revenue for our third fiscal quarter was $2.6 billion, up 66% from the prior year and 1% sequentially.

Hard drive shipments totaled 51.1 million units, up 62% from the prior year period and 3% sequentially.

Revenue from sales of WD TV and media players and solid state drives totaled approximately $46 million, up 48% from the prior year and sequentially flat with the December quarter.

Average hard drive selling price was approximately $51 per unit, up $1 from the year ago quarter and down $1 from the December quarter.

Growth in emerging markets and the recovering commercial segment led to desktop growth being stronger than expected.

Pricing remains stable as a result of the unexpectedly strong demand.

We shipped 19.8 million mobile drives in the March quarter compared to 10.1 million in the year ago quarter and 21.2 million in the December quarter.

We reduced our mobile volumes in response to the seasonality and branded products and to balance the effect of competitors in the mobile market with regard to their capacity from the gaming segment.

During the March quarter, we shipped 4.6 million drives into the DVR market compared to 3.5 million in the year ago quarter and 4.1 million in the December quarter.

Our strong product lineup led to revenue gains in both our OEM and channel businesses.

Revenue from sales of our branded products, including WD TV, was $467 million, up 36% from $343 million in the year ago quarter and down 18% sequentially from $569 million in the December quarter, reflecting the typical seasonality of the retail market.

On the enterprise front, there was strong sequential demand for our near line storage products, and our SAS products are making progress towards our multi-year plan to gain a representative share of the traditional enterprise market.

Moving on to our sales channel and geographic results.

Revenue by channel was 49% OEM, 33% distribution and 18% branded products in the March quarter compared with 48%, 30% and 22% in both the year ago and December quarters.

To the geographic state of our revenue, the Asian market showed continued strength, increasing to 52% of revenue in the March quarter from 46% in the year ago quarter and 50% in the December quarter.

The Americas and European regions performed as expected at 24% for the Americas and 24% for Europe in the March quarter compared to 26% and 28% in the year ago quarter and 25% and 25% in the December quarter.

Our gross margin for the quarter was 25.2%, up from 15.9% in the year ago quarter and down from 26.2% in the December quarter.

Total R&D and SG&A spending was $224 million, or 8.5% of revenue.

This compares with $174 million, or 10.9% of revenue in the year ago quarter and $214 million or 8.2% of revenue in the December quarter.

Our R&D investment is focused on broadening our product offerings in response to customer needs and developing technologies in order to maintain our market competitiveness.

Operating income was $441 million, or 16.7% of revenue.

This compares with $61 million, or 3.8% of revenue in the year ago quarter and $473 million, or 18.1% of revenue in the December quarter.

Interest and other non-operating expenses were approximately $1 million.

Tax expense for the March quarter was $40 million, or 9.1% of pre-tax income within our model range of 7% to 10%.

Our cash tax rate is expected to be between 1% and 2% for the fiscal year.

Our net income was $400 million, or $1.71 per share.

This compared with $50 million, or $.22 per share and $429 million, or $1.85 per share in the year ago and December quarters respectively.

Turning to the balance sheet, for the March quarter, our cash conversion cycle was a negative three days.

This consisted of 43 days of receivables, 23 days of inventory or 16 turns and 69 days of payables.

We generated $588 million in cash flow from operations.

Capital expenditures were $177 million and appreciation and amortization totaled $128 million.

We also made our fourth quarterly debt repayment installment of $19 million, reducing our debt balance to $425 million.

Cash and cash equivalents increased by $391 million, ending at $2.826 billion.

On our January call, we updated our capital expenditure forecast for fiscal 2010 to be between $650 million and $750 million.

We now expect to be at the high end of that range as we put in investments in place to support the expected strength in the market as well as continued customer preference for WD products.

Depreciation and amortization for fiscal 2010 is expected to be about $520 million.

As we have consistently demonstrated in the past, we remain focused on supply/demand equilibrium and ready to adjust capacity utilization in accordance with market needs.

Our strong cash position allows us to maintain an adequate buffer in times of continued global economic uncertainty while still providing the operation flexibility to secure component supply, increase our investments in advanced technology and expand our product breadth through pursuing internal and external opportunities.

We have $466 million remaining in our stock repurchase authorization as we continue to evaluate the merits of further repurchases against internal and external investment alternatives.

Now I will discuss our expectations for the fourth quarter of our fiscal year 2010.

Market indicators and customer inputs continue to strengthen our belief that demand for hard drives will be strong throughout the calendar year and beyond.

WD remains ideally positioned to service these market needs due to our existing customer and supply relationships, product line up, operational agility, technology and financial resources.

Historically, June quarter demand has been flat to moderately down when compared to March volumes, and we expect that seasonality pattern to continue.

Consequently, we are forecasting volumes in the 157 million to 162 million unit range.

We anticipate that pricing will be competitive, but we'll be rational based on advanced technology deployment, supply/demand balance and inventory positions in all channels.

I would note that our outlook is based on an assumption that the current disruption of the European air traffic is short lived and the economic activity is made up during the balance of the quarter.

Accordingly, we expect current quarter revenue for WD to be in the range of $2.475 billion to $2.575 billion.

R&D and SG&A are expected to total approximately $230 million.

Our net interest expense is projected to be about $1 million.

We expect our tax rate to be about 9%.

We anticipate our share count to be approximately 236 million.

We estimate earnings per share of between $1.40 and $1.50 for the June quarter.

Bob?

In the interest of time, as we begin the Q&A session, we would like to ask that you limit yourselves to a total of two questions in your initial turn in the queue.

That is your initial question and a single follow-up.

Thank you, and operator, please open the call for questions.

(Operator Instructions) Your first question comes from Steven Fox with DLSA.

Hi, good afternoon.

Can you hear me?

Yes, we can.

Okay.

Just a question on channel inventories and your own inventories.

I guess inventories are still running fairly lean at two weeks, according to you.

I think you said about three weeks.

You built up some component inventory and WIP during the quarter.

Is it possible to have shipped more to put the channel at a more comfortable level?

Why are your inventories is building up, for example, when the channel is staying so lean?

First of all, industry inventory is very healthy.

It is pretty much constant from where it was at the end of December, and I'm talking about the manufacturing component and retail, which is just above two weeks of sales, two weeks of sales run rate.

Relative to our own inventory, we are carrying a little bit more WIP and components inventory in over the counter shortages.

But from an inventory viewpoint overall for WD, we still have inventory turns that are in the 16 -- approximately 16 turns, which is still the industry leading turns.

In the channel, which -- it's within the normal range of four to six weeks and from the December quarter to this quarter, we reduced our inventory in the channel by about a half a week.

Great.

And then looking forward to the next quarter, do you think you need to build component inventory, whether it's to be prepared for the second half ramp, or how do you anticipate that playing out?

Yes, we'll be building up in order to be able to support customer needs for the back half of the year.

Great.

Thank you.

The next question comes from is Rich Kugele with Needham.

Your line is open.

Thank you, two questions.

One on DRAM side, some of those players have seen the OEMs de-spec some of the PC as they've exceeded more than 15% of the BOM.

That traditionally doesn't happen in drives, and I'm just wondering if the tightness, or the expected tightness in the second half, if you think that they could go and start using lower capacity drives?

Well, I think so far the mix in the marketplace continues to richen and we continue to increase the average gigabyte shipped quarter on quarter.

Now, we do believe that in the back half of the year, demand will be robust and seasonally robust, and we do believe that supply chain will be stretched in order to support that demand.

In the event that total supply chain supply doesn't meet total natural demand, then typically, one solution to that is to mix down somewhat to make the components go further.

Okay.

And then separately, in terms of the buyback, obviously, the cash balance is getting quite large, and you have certainly the cash flow to go and buyback far more than 466 million.

Are there any tax implications with using more of your cash balance to buy back stock given some of it it's probably offshore?

We aren't limited in either options or capability to execute our business operationally or structurally and -- however, I did outline the intentions of what we intend to use the cash for.

We have an operational bias as far as that is concerned.

However, if we ended up doing a large acquisition in the US and determined that it was going to be funded through cash, we would have to take into account the location of our cash.

And as you can imagine, quite a bit of the cash that we are building up is building up in foreign locations.

Okay.

Good.

Thank you very much.

Sherri Scribner with Deutsche Bank.

Your line is open.

Hi, thank you.

I wanted to ask about your market share this quarter.

Clearly, based on Seagate's reported numbers, you guys outshipped Seagate during the quarter and now you are the number one hard disk drive vendor.

You've continued to gain share over the past couple of years in the notebook market, and I'm just curious what your plans are for gaining share going forward now that you are the largest hard drive manufacturer.

Well Sherri, we're obviously very, very pleased that consistently for the last eight years quarter on quarter, customers have been expressing preference for the value proposition that WD offers.

And consequently, we have grown share on a consistent basis for the last eight years.

And we believe that our technology, our manufacturing capability, our supply chain relationships, our agility, all of those values combined with our product breadth allow us to continue to support our customer's growth opportunities in an advantaged way.

I think in relation to -- yes, we this quarter shipped the largest number of units in the industry, but there's a long way to go relative to the largest revenue generator in the industry.

That's helpful.

I'll stop there.

I'm going to circle back.

Thank you.

Next question comes from Ben Reitzes with Barclays.

Your line is open.

Yes, thanks.

Could you talk a little bit more about the corporate PC commentary and what you saw in particular in that area?

And I assume you know whether it's going into corporate or consumer, but what you saw in terms of the pickup and what you expect for the rest of the year, there?

The rest of the calendar year?

We saw commercial strength strongest in emerging economies, but also some pickup in commercial, primarily represented by desktop in all markets in the world.

So, yes, we do believe we are seeing the beginnings of a reawakening of corporate purchasing in terms of refreshing systems.

And with this reawakening dovetailing into something you kind of already talked about, but I would like to hear more, do you feel like the industry is going to be just tight in the back half of the calendar year, or do you feel like the HDD industry actually may not be able to meet the demand that picks up seasonally with the consumer and with the reawakening corporate?

Well, I think the way we're modeling the back half of the year, we're looking at a range, obviously.

But if you take the actual for the first quarter, first calendar quarter, you take the low side of our expectations for the second quarter and you model the low end of seasonality, which is 10% in the third quarter and 2% or 3% in the fourth quarter, then you would come up with a number somewhere around $670 million for the full calendar year.

If you model the actual for March, the high end of our expectation for time in the June quarter at 162 and then take 12% or 13% increase into the third quarter and 3% to 5% in the fourth quarter, you come to 690.

We think that that range is highly probable and towards the high end of that range.

We are working diligently with our supply base to ensure that WD supports the growth opportunities of our customers in relation to that anticipated market size.

There is a risk that it will be harder than that, given that we are -- not only are we seeing the strength we've seen in the last 12 months in consumer, which has been considerable and above everyone's expectations, now being augmented by the beginnings of a corporate purchasing cycle.

If I have to bet on which end of that range it will come up, it will be the high end with possible upside opportunity from a time perspective.

We are working with the supply base to support that.

It's going to be a real stretch.

There -- as a result of last year's economic recession, the level of capital investment that was made during that period was minimal, and we've been in catch-up mode ever since, and the supply base for capital equipment is pretty stretched.

So even with the best will in the world, we are going to have difficulty as an industry, I believe, across did entire supply chain in fully reaping the benefits of that opportunity.

Alright.

Thanks a lot.

Next question comes from Ananda Baruah with Brean Murray.

Your line is open.

Thanks, guys, for taking the question.

Sort of to piggyback off of that, what -- how should we think about it, or could you help us think about the moving parts around pricing as we go into the second half of the year when you think about what are you seeing on mix right now.

And maybe if you hit the higher end of that range, is it possible to see blended pricing actually mix up as you begin the second half of the year from what the levels are now, what you are expecting in Q2?

We are forecasting for Q4 that the ASP will be flat to down best upon branded seasonality for us and the time being down a bit, even if only modestly.

But with the prospects of very robust demand, there is a possibility that pricing will be firm.

Okay, great.

I guess firm would mean not down so flat to potentially increasing?

Segment mix always comes into it, but yes, firming and staying pretty constant.

Okay, thanks.

If I can follow up on that, can you talk a little bit about what cost save opportunities you might have going in the second half of the year, either from the move to single platter or the use of more internal heads, if that really can be a bit of a tailwind as you move forward here?

We constantly strive to improve our cost profile on a quarter-over-quarter, week over quarter, day by day basis, and we will continue that process.

Can we expect to see something -- could something more than typical show up in the second half of the year from those cost save opportunities, or is it just -- would it more of the stuff you guys are doing ongoingly?

I think it's - we have got a pretty good process of blending technologies relative to overall market needs and continuing to drive cost on a quarter by quarter base, and we intend to continue along that path.

Okay, thanks a lot.

Keith Bachman with Bank of Montreal.

Hi, good evening.

I had two questions as well.

As you look at -- you've talked a lot about the dynamics of the second half of the year from the demand side.

Is there any numbers that you can help us think about what you think the industry is setting up from a supply side, from the capacity side?

I think we are probably pretty confident looking across all the different pinch points in the market, and there are many, that the low end of the range that I outlined is on track to be supported.

As we move further into the middle or high end of range, I think we are going to squeak a bit.

We're going to have to work hard to accomplish support for those larger numbers.

Okay.

Then my follow-up question to that would be, we can impute what the gross margin is for your June quarter guidance, but it seemed like then, under that scenario supply/demand, that if we look at the second half of the calendar year, the gross margin that we should be thinking about would be more akin to what you just demonstrated in the March quarter.

Is that a reasonable line of thinking?

We're looking at that, as you say, with the prospect of increasing demand ,and the advantages that we have with our vertically integrated model and improving segment mix and focused on profits by the other players.

We think that there's an opportunity for us to be able to expand that margin if those conditions come true.

Okay.

Well, I'll stick with the two question rule.

Thank you very much.

Mark Moskowitz with JP&C, your line is open.

Yes, thank you, good afternoon.

Two quick questions.

One, it's fallen on the prior question from Keith.

As far as the gross margins are concerned, can you give us a sense in terms of your ability to cherry pick the last quarter or two in terms of serving the higher cap and your quality and to ability to meet volume commitments.

Was that higher in the last quarter or two versus the last year, and can that only increase going forward, just given that some of your peers still have some technology issues?

The larger we get, the more difficult it is to cherry pick the market in the sense that as a broad line supplier to all of the major market players, we, of necessity at our size and scale, we need to support their total business rather than trying to cherry pick their business.

Obviously, as you go to smaller players in the business, and we knew how to do this very well when we were smaller, you can pick and choose the business you wish to do.

But I think at our size and scale, there's a certain obligation to support -- broadly support our customers' businesses.

And again, back to the tightness we anticipate in the back half of the year, I'm sure we will work with customers in that environment to support their overall needs which may involve some mixing to generate increased volumes from a restricted component supply.

Thanks, John.

The second question revolves around that tightness that you alluded to earlier in response to Ben's question.

I appreciate the detail you provided, because it does sound -- we take what you said and what your competitors see around CapEx that folks are being quite disciplined and rational.

I am trying to get a sense in terms of if this tightness really does manifest and it's sustained in the back half, given WD's cash position, would you be flexible or creative in terms of maybe pulling up cash up front to some of your suppliers in the supply chain to make sure you have the necessary supply versus your competitors, whether it's heads or extra media?

Well, certainly.

While we don't talk about specific strategies, I think if you take a look back at WD's progress over the many, many years now, one of our strengths is to provide availability to our customers.

And in order to do that and in order to provide the kind of responsiveness that we've demonstrated in many occasions of unexpected demand and on other occasions of expected robust demand, you have to have a very good relationship with the supply base, and we believe we have that.

And we work very closely with our suppliers to ensure that we have the ability to support our customers, and we are doing that as we speak.

Thank you.

Aaron Rakers with Stifel Nicolaus.

Your line is open.

Thanks.

Two questions as well, obviously.

First on the notebook business, it looks like by my math, you guys were also down about 7% or so sequentially.

I guess the question is, do you endorse Seagate's comments that the overall industry was more or less flat on a sequential basis?

And if that is true, who do you think is taking share, and do you think that you guys recapture share here as we move forward?

I think the 2.5-inch space was roughly flat quarter-over-quarter.

The -- as Tim mentioned in his remarks, we diverted some of our build capacity and supply chain capacity to 3.5-inch where we saw significant strength in demand and got offered a better business opportunity for us in a overall restricted supply situation.

So we focused on those areas which offered us the best return.

As you go down or go to other competitors, particularly those who traditionally has serviced the gaming market which has heavy demand for 2.5-inch in the back half of the calendar year, to them, the business that is least attractive to us in the first quarter, first couple of quarters of the year looks highly attractive relative to gaming.

So typically, they divert their seasonally available capacity that was dedicated to gaming in the back half of the year, they diverted into the low end of the 2.5 mainstream business in the first couple of quarters that would typically be the component supply into the second tier branded external storage box manufacturers and some divergence in notebook support.

Okay, that's helpful.

And then the follow-up question.

Understanding that you guys -- probably it's too early to look out to fiscal 2011 at this point, but any general thoughts on CapEx?

And in that, I believe in this year you guys have like an incremental $200 million spend related to some wafer upgrades going on.

Do we think about stripping that completely out as we go into fiscal 2011 in terms of your CapEx?

No, that -- first of all it's too early for us to talk about FY 2011, but the $200 million that you mentioned is -- that's historical in the sense that a couple of years ago, we were indicating that it was going to cost us $400 million in order to be able to bring our capability from 6-inch up to 8-inch wafer.

And we spent close to half of that, a bit less than half of that in order to prove the capability.

And then when the downturn came during the course of last year, we postponed that.

So that actually has to come in and will be included in the number that we provide for next year.

So that's not in the 750, just to be clear?

No, it's not.

Okay, thank you.

Kevin Hunt with Hapoalim Securities, your line is open.

Yes, thank you.

I wanted to follow up on the distribution PC business that you referred to earlier about the channel inventory.

Looking at the growth numbers that you reported in terms of the mix, this is the fourth quarter in a row where you've had fairly substantial better performance of your distribution relative to your OEM and your channel -- sorry, in your retail.

And if I do some math, it looks like pretty much all the incremental units you shipped above your guidance level would have gone into the distribution piece of your business this quarter.

So, trying to tie that you to your commentary that inventory is lower than it was last quarter, and is there something going on in terms of the sell through dynamics of WD versus other players in the industry?

Then I have another follow-up.

At the beginning of the quarter we did see a shortage of product in the distribution channel.

Well,, actually what we saw was a significant demand from the distribution channel in the early part of the quarter.

We serviced that demand given our ability to mix rapidly into 3.5-inch.

We weren't sure at the beginning of the quarter whether that was a time statement being stronger than expectation, or whether it was a competitive supply statement relative to the spotty supply chain, and it appears that it was a bit of both.

And then, as we got closer to the end of the quarter, we got into March, the demand -- overall demand strength was maintained, but we saw competitive availability improve as we got towards the back half of the quarter.

I don't know if that helps you.

Okay.

And then my follow-up was just on the consumer piece where you had what seemed like, again, counter seasonal up growth there in that market, and I think that was consistent with what Seagate said in their DVR business as well.

Is there something changing in that business?

Is that picking up or something?

What can you tell us about that market?

We saw strength in that market, both in OEM which is essentially the DVR piece and the channel which tends to be more into the surveillance market, and we saw a lift in both of those markets.

Is that a recovery issue, or is there something different going on there, or what?

Not 100% sure, but I think it may be related to the recovery pace post-recession and the different model there where essentially, that's a lease -- a large service providers by the equipment and then the individual consumer essentially leases it over time in the DVR space.

And so, yes, I think that CE DVR market is behaving more like commercial PC than consumer PC.

So I think its recovery is got a little bit shifted to the right and has distorted seasonal patterns as a result.

Okay, thank you very much.

Jayson Noland with Robert Baird.

Your line is open.

Yes, thank you.

I wanted to go back to the competitive dynamics question.

Hitachi had a very strong Q1 also.

There's a couple of other players out there.

In the past, sometimes there's been over supply as people get too optimistic, but given the situation in the market today, it seems unlikely that anybody would be able to substantially over supply the market.

Maybe John or Tim, if you can comment on that.

Okay.

We were encouraged by the Hitachi's results, and we think it's at the level of transparency they are providing is a positive for the industry.

And we also think that that level of transparency will also be beneficial to the investment community as they see the behavior of the people that now hold somewhere close to around 80% of the total market.

So everybody has got the information available to them in order to make their decisions relative to the capacity additions.

And then once they have the capacity additions in place, they have the information available to them relative to capacity utilization.

So we think that is a positive.

We see the benefits of the large vertically integrated players really being displayed and the results of the three companies, and that's a positive for the industry, we believe.

Thank you.

A question from me on inventory.

Tim, what would your expectations be at the end of the June quarter for inventory internally to WD or external?

We always operate our inventory metrics in accordance with our models, and we strive to stay within our is parameters which are 12 to 16 turns.

That's what our inventory model is, and there may be some opportunity for us, depending on the strength of demand on what we see at that time to carry some inventory into Q1.

But we do that with an abundance of caution because of the fact that we want to make sure that we are serving customer needs because that's what really drives inventory and supply demand dynamic.

Thank you.

David Bailey with Goldman Sachs.

Your line is open.

Great, thank you.

I had a question on the SSD product you just announced.

Can you talk a little bit about how you are differentiating your offerings from the others that are in the market?

And what is the qual cycle look for these products.

I think the -- well, there's two distinct markets that we serve with SSD today.

The first and the one that we have five years experience is the embedded market for industrial, aerospace, netcom and so on.

That is very analogous to the traditional enterprise hard drive space, relatively long qual cycles can take up to six months, nine months, long life cycles, multi-year life cycles.

The other product line that we recently announced in the client PC space targeted at that space, at the enthusiast in that space is essentially a consumer oriented product offering.

And there there's -- the qual cycle is internal to the WD development process, and that process has been extremely enlightening as we also included, naturally enough, competitive product offerings from the market through the same test regime where we have, in developing that product, tested on thousands -- hundreds of systems for hundreds of thousands of hours.

And we believe the differentiation of buying a solid state drive from Western Digital is that it is fully compatible with a broad range of systems and will be highly reliable in those applications.

We made some startling observations relative to our competitive testing of market available drives.

Okay.

And then on the internal inventory, it was up a little bit more than revenue was up this quarter sequentially.

We've heard a lot about the heads and media shortage.

Was there anything else that you built up component that you are seeing some tightness and you're trying to offset?

Yes, I think we're seeing -- the major components that is gets most of the air time are substraights media.

However, there are tightness in many other components.

Pivots, pivot bearings, all semiconductor components, memory.

So there are multiple areas in which we're working with supply base partners to ensure that we have the right support for our customers.

Great.

Thank you.

Robert Cihra with Caris & Company.

Your line is open.

Hi, thanks very much.

You mentioned that the enterprise SAS product is ramping now.

Can you give us any more is specifics or updates there and what maybe you are thinking about in terms of broadening that line up?

Thanks.

As you know, we announce products once we are shipping them in volume, so we'll continue to do that.

Okay.

Also in the traditional enterprise space, just as we do in al the other market segments we address.

What I can tell you is we have a significant commitment to success in this space.

That by definition involves a range of products, not just a single product and is a multi-year endeavor.

Okay.

And with that in mind, if you look at your progress to date, can you, I don't know, sort of tell us if you think it's been better here or worse there?

What have you learned so far in that space?

We've learned that are it's moving along pretty much as we would have expected.

Okay.

Thank you.

Kaushik Roy with Wedbush.

Your line is open.

Thank you.

Seems like you have used aluminum in 2.5-inch in the past.

So my question is how much flexibility do you have in using aluminum for notebook or 2.5?

And then I have --

Right.

Past, present and future, we have and we'll continue to ship continuing volumes of aluminum in all form factors.

So if there is a constraint in glass substraight, can you use aluminum for all of that, or --

There are certain applications and certain segments of the market where glass is either required or desired, and there are other applications in other segments of the market where aluminum is readily accepted and is appropriate to application.

And we are -- obviously, we are producing product with both glass and aluminum and addressing it to the appropriate segments of the market, and it's one of the ways in which we are addressing potential tightness in the overall supply chain and ensuring that we have good, robust product support for our customers.

(inaudible) Hitachi, their gross margin actually increased in the March quarter from 25% in December to about 29% in March.

Can you comment (inaudible) the dynamic there?

Was it all because of better cost, or was it something else?

Thank you.

Well, you'd have to ask Hitachi for the reasons.

I think it's -- when you look at the overall increase in transparency and the increased information they provided yesterday, it's a very impressive recovery story, and it demonstrates, I think, clearly, if you look at Hitachi's product mix model, it's much closer to the C8 model than to the WD's.

If you look at Seagate, you can see they derive somewhere in the -- between 25% and 30% of revenue from enterprise, all enterprise, that includes traditional and near line storage.

You can see that Hitachi probably derives somewhere in the mid 20% to 25% range and WD derives about 10%.

So it's an overall business mix thing, plus my earlier comment about the smaller you are, the more appropriate and able you are to pick your products and cherry pick your overall business.

So -- but I think a superb recovery story there that just reinforces I think what we and Seagate have been saying to the investment community for several years now, that with the proper business model, which at the scale of this opportunity today is a vertically integrated large scale, efficiently run manufacturing operation with measured marketing and sales activity, that this is a highly desirable business.

And when we look at the opportunities and the level of content generation that is going on around us and the demand level for storage, this, properly addressed, this is a fantastic business opportunity.

And I think the fact that Hitachi has now opened the Kimono and being more forthcoming with how they are running the business, I think the investment community should be a lot more prepared to give the HDD industry a little more of its due relative to its opportunity to provide significant return on investment.

Thank you.

Next question comes from Nehal Chokshi with Technology Inside Research.

Your line is open.

Yes, hi guys.

Nice quarter.

A little bit more of a longer term question.

Can you talk about, in the case that supply does not meet demand in the second half, what do you believe is the risk that PP OEM would mix towards SSDs?

And then on the back of that, because you also talked about what you belive would be effect of ramp-up tablets on the hard drive industry.

Okay.

I think the risk that they would mix with SSDs is very minimal for two reasons.

One, nan flash supply is going to be even tighter than the supply chain for the -- for hard drives based on the success of highly mobile devices that absolutely have to have NaN flash to make them work, and that represent the vast bulk of the demand profile for NaN flash.

And when you look at the investment that has been put into the flash market, it will be very tight through the back half of the year, we believe.

Your follow-up question relative -- also, NaN flash does not address the storage requirements of the vast bulk of those devices that traditionally use hard drives.

If it did, I guess the only thing we'd be selling is single head single platter.

So then on your tablet question, that makes it even more unlikely that there is going to be a SSD migration in the mainstream PC business, and we see tablets similar to netbook that will create yet another category of device which will initially consume created content which must be stored somewhere, which will drive requirements for near line storage cloud support.

And as we look at the specs of some of the prospective tablets that are coming along, they will also have content generation capability, and we see it all as positive addition to the total infrastructural demand that is going to drive our business into the future.

Okay.

Can I ask a follow-up to that actually?

Sure.

So do you see an opportunity that you'd be able to get in the hard drive within any of these tablet PCs?

Certainly, yes.

Does it require a slim line form factor, or can you do it with a regular 2.5-inch form factor?

Probably both, but more likely it will be slim line.

Okay, very good.

Thank you.

You're welcome, .

Okay.

Thank you all for joining us today.

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

Thank you.

This does conclude the conference call.

You may disconnect at this time.

Have a great day.