NetApp, Inc. — Q1 Fiscal 2021 Form 10-Q
Reporting period: Three months ended July 31, 2020. Fiscal 2021 is a 53-week year, and this quarter contained 14 weeks versus 13 weeks in the prior-year quarter; the extra week contributed to revenue growth and complicates comparisons.
Financial results and liquidity
| Metric | Q1 FY2021 | Prior-year quarter | Change |
|---|---|---|---|
| Net revenue | $1.303 billion | $1.236 billion | +5% |
| Gross profit / margin | $872 million / 67% | $816 million / 66% | Margin +1 percentage point |
| Operating income / margin | $136 million / 10% | $104 million / 8% | Income +31% |
| Net income | $77 million | $103 million | -25% |
| Diluted EPS | $0.35 | $0.42 | -17% |
| Cash from operations | $240 million | $310 million | -23% |
Revenue mix: product revenue was $627 million, down 3%; software maintenance was $301 million, up 20%; hardware maintenance and other services were $375 million, up 10%. Maintenance growth benefited from the extra week. Product revenue was pressured by COVID-19-related economic uncertainty; all-flash-array sales increased, but declines in other products more than offset that growth. Product gross margin was affected by lower average selling prices.
Cash, cash equivalents and short-term investments totaled $3.773 billion at July 31, 2020, up from $2.882 billion at April 24. Working capital was approximately $1.841 billion. Operating cash flow was $240 million; investing cash flow was a $311 million outflow, including $350 million net cash paid for acquisitions; financing cash flow was $1.003 billion, mainly reflecting debt issuance.
Debt principal totaled $2.8 billion, comprising $2.65 billion of senior notes and $150 million of commercial paper. The company issued $2.0 billion of new senior notes and redeemed $500 million principal of 2021 notes for $513 million, recognizing a $14 million extinguishment loss. It reported $1.0 billion of undrawn revolving credit capacity and said it was in compliance with debt covenants. Cash and short-term investments exceeded reported debt principal by approximately $973 million.
Material changes and notable items
- Revenue rose $67 million, but management attributed the increase primarily to the additional fiscal-week and higher maintenance revenue; product revenue declined.
- Operating income improved despite higher sales and R&D expenses. Net income fell, with other expense of $32 million versus other income of $15 million a year earlier, including the debt-extinguishment loss and lower interest income. The effective tax rate rose to 26.0% from 13.4%; excluding acquisition-integration-related taxes, the current-quarter rate was approximately 16%.
- Spot, a public-cloud compute-cost optimization provider, was acquired for $340 million cash in July; Cloud Jumper, a virtual desktop and remote-desktop services provider, was acquired for approximately $34 million in April. Preliminary purchase accounting added $260 million of goodwill in the quarter.
- Deferred revenue and financed unearned services revenue was $3.620 billion, down from $3.698 billion at fiscal year-end. The company expects to recognize approximately 50% within 12 months and 25% in the following 12 months.
Outlook, risks and contingencies
Management said COVID-19 created uncertain demand: some customers delayed purchases while others accelerated orders for remote-work needs, with a net unfavorable effect on product revenue. The company also reported logistical challenges and minor supply-chain constraints. It stated that available liquidity, operating cash generation and access to capital and credit should cover requirements for at least 12 months. No specific revenue or earnings forecast for the quarter is provided in the filing text. The company forecast $125 million to $175 million of capital expenditures for the remainder of fiscal 2021.
On August 25, 2020, after quarter-end, NetApp committed to a restructuring expected to reduce its global workforce by approximately 5% during fiscal 2021, with estimated costs of $35 million to $40 million, mostly cash. The company declared a $0.48-per-share dividend payable October 28, 2020. Share repurchases remained suspended due to pandemic uncertainty.
Key risks include the uncertain duration and business impact of COVID-19; competition and shifts toward cloud and consumption-based models; dependence on distributors and suppliers; customer demand, product mix and margin volatility; and acquisition integration. Two distributors accounted for 43% of quarterly revenue combined. Contingencies include a securities class action concerning prior fiscal 2020 guidance and patent litigation; the company said it intends to defend these matters and recorded no material legal accrual. Gross unrecognized tax benefits were $220 million, with $142 million recorded in long-term liabilities; the possible 12-month impact could not be estimated.
Most important facts for investors to verify
- How much reported revenue growth reflects the extra fiscal week versus underlying demand, and whether product-revenue weakness persists.
- Whether cash generation and margins hold up amid COVID-19 impacts, lower product selling prices and changing revenue mix.
- Integration progress and returns from the Spot and Cloud Jumper acquisitions, including the substantial goodwill recorded.
- Debt, commercial-paper and liquidity trends, alongside the company’s capital allocation, dividend and continued share-repurchase suspension.
- Actual restructuring costs and timing, and developments in tax audits and legal proceedings.