NetApp Q3 Earnings & Revenues Down Y/Y; Q4 Outlook Soft

NetApp Inc. NTAP recently reported dismal third-quarter fiscal 2016 results wherein both the top line and the bottom line plunged year over year. Earnings of 52 cents per share declined 7.1% from the year-ago quarter mainly due to a drop in revenues, partially offset by reduced operating expenses and lower share counts.

Quarter Details

NetApp's revenues decreased 10.6% year over year to $1.386 billion and missed the Zacks Consensus Estimate of $1.451 billion. The year-over-year decline was primarily due to unfavorable foreign exchange rates. Also, uncertain IT spending environment along with a drop in Product revenues hurt revenues.

On an operating segment basis, Product revenues (54% of total revenue) decreased 19.3% year over year to $750 million. The decline was primarily due to lower-than-expected sales of the company's mature solutions and unfavorable foreign exchange impact.

Software Maintenance revenues (17%) increased 3.5% on a year-over-year basis to $234 million. Also, Hardware Maintenance & Other Services (29%) increased 1.5% year over year to $402 million. Within Service revenues, hardware maintenance support contracts revenues were flat year over year at $326 million, while Professional & Other Services revenues grew 7% year over year to $76 million.

The 2% year-over-year increase in software maintenance and hardware maintenance and other services revenues was primarily supported by the existing and new service contracts.

Adjusted gross margin (including stock-based compensation but excluding amortization and other one-time items) contracted 160 basis points (bps) from the year-ago quarter to 62.6%. The decrease was primarily due to lower product gross margin. Also, a lower revenue base and foreign currency headwinds dampened gross margin.

Adjusted operating expenses (including stock-based compensation but excluding amortization and other one-time items), as a percentage of revenues, decreased 30 bps to 49.6%.

Adjusted operating margin (including stock-based compensation but excluding amortization and other one-time items) contracted 110 bps to 13.1% from the year-ago quarter, primarily due to lower revenue base and lower gross margin, partially offset by improved operating expenses as a percentage of revenues.

On a GAAP basis, net income came in at $153 million or 52 cents per share compared with $177 million or 56 cents a year ago.

Balance Sheet & Cash Flow

NetApp exited the quarter with cash, cash equivalents and investments of $5.02 billion, compared with $4.81 billion in the previous quarter. Receivables were $585 million compared with $587 million in the last quarter. The company has a long-term debt balance of $1.49 billion.

NetApp generated cash from operations of $355 million during the quarter compared with $275 million in the previous quarter. During the first nine months of fiscal 2016, the company generated operating cash flow of $629 million as against $872 million in the comparable period last year.

Further, NetApp repurchased shares worth $85 million and paid $52 million as dividend in the third quarter.  During the first three quarters of fiscal 2016, the company spent $698 million on share buybacks and $159 million for dividend.

Concurrent with its third-quarter results, the company announced a quarterly cash dividend of 18 cents per share, to be payable on Apr 27, 2016 to shareholders of record as on Apr 8.

Guidance

NetApp issued the outlook for the fourth quarter of fiscal 2016. The company expects revenues in the range of $1.35 billion to $1.50 billion (mid-point $1.425 billion). The Zacks Consensus Estimate is pegged at $1.506 billion. GAAP earnings per share are anticipated between 12 cents and 21 cents and non-GAAP earnings per share within 55 cents to 60 cents (mid-point 57.5 cents). The Zacks Consensus Estimate stands at 55 cents.

Our Take

NetApp reported dismal results for the fiscal third quarter wherein its top line and bottom line results compared unfavorably with the year-ago quarter figures. Also, the company provided tepid revenue guidance for the next quarter due to persistent uncertainty regarding global IT spending and unfavorable exchange rates.

Nonetheless, the company is expected to gain momentum in flash-based solutions with the newly introduced all-flash array, which will help it to gain traction in the storage market. The recent product launches and refreshes will drive revenues while stringent cost controls will facilitate margin expansion over the long run.

However, the recent forecast for worldwide IT spending by Gartner raises concerns about NetApp's near-term performance. Competition from EMC Corp. EMC and HP Inc. HPQ add to the woes.

NetApp currently carries a Zacks Rank #3 (Hold). Another stock worth considering in the technology sector is Silicon Graphics International Corp. SGI, sporting a Zacks Rank #1 (Strong Buy).

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