Marie Myers
Executive Vice President & Chief Financial Officer at Hewlett Packard Enterprise
Thank you, Antonio, and good afternoon, everyone.
During the first-quarter of fiscal 2025, we saw increased demand for service, storage and networking products. Our revenue grew 17% compared to last year, marking the fourth straight quarter of accelerated revenue growth. We met our outlook, achieving double-digit growth in server and hybrid cloud. Intelligent Edge also performed better than we expected and is set to grow further in this quarter. We reported non-GAAP diluted net earnings per share of $0.49, aligning with our outlook showing strong profitability and Hybrid cloud and Intelligent Edge. However, we faced some challenges in the service segment, which we are addressing.
Here's a closer look at the details of the quarter. Our first-quarter revenue was $7.9 billion, up 17% year-over-year, but down 7% quarter-over-quarter, reflecting typical seasonality and lower AI systems revenue. Our annual recurring revenue was $2.1 billion, up 46% year-over-year, driven by AI and Intelligent Edge. Non-GAAP gross margin was 29.4%, down 680 basis-points year-over-year and 150 basis-points quarter-over-quarter. On a year-over-year basis, gross margin was impacted by a higher mix of server revenue and lower contribution from Intelligent Edge. And we faced challenges in server that pressured margin both year-over-year and sequentially.
Non-GAAP operating margin was 9.9%, down 160 basis-points year-over-year and 120 basis-points sequentially, primarily due to headwinds in gross margin. Operating margin partially benefited from a 9% decrease in non-GAAP operating expenses, reflecting lower variable compensation and continued cost discipline. In my first year as CFO, we implemented cost-saving measures by targeting discretionary spending, reducing non-GAAP operating expenses from 24% in fiscal 2023 to 22% of revenue in fiscal 2024. In Q1, these actions lowered operating expenses to a record-low of 19% of revenue. This year, we aim to target more structural cost-savings.
Free-cash flow was negative $877 million, in-line with normal seasonal patterns. GAAP-diluted net earnings per share was $0.44, above guidance of $0.31 to $0.36 due to a gain recognized on the sale of our Communications Technology Group or CTG and lower-than-expected Juniper related costs. Non-GAAP diluted net earnings per share of $0.49 was within our guided range of $0.47 to $0.52. Non-GAAP diluted net earnings per share excludes $57 million in net costs, primarily related to stock-based compensation expense, H3C divestiture-related severance costs, acquisition, disposition and other charges and amortization of intangible assets, primarily offset by the gain recognized on the sale of CTG.
Now let's break-down the segment results. Server revenue was $4.3 billion, up 30% year-over-year. Revenue fell sequentially, primarily due to the timing of AI systems deals. In traditional compute, our Gen 11 value proposition resonated with customers, contributing to year-over-year AUP growth. Gen 11 accounts for the majority of our traditional compute sales and we expect to begin shipping the new Gen Gen12 portfolio later this year. In AI systems, we signed $1.6 billion in net orders and added enterprise and sovereign customers, although most demand is still from model builders. We recognized roughly $900 million of revenue, up from about $400 million last year, but down sequentially as expected due to chip availability and customer readiness. We expect these factors will continue to affect our AI systems business. Server operating margin was well below expectations at 8.1%, while our guidance of 10% to 11% assumed impact from the GPU transition and competitive pricing, market pressures were greater-than-expected and execution issues further impacted operating margin. We have made improvements and taken additional steps to reduce costs, expecting server operating margin to be around 10% by Q4.
Let me provide further details. In traditional compute, we face challenges in pricing strategies and discounting. We now have a more rigorous discount framework with increased deal mix scrutiny. These changes will take time to impact our P&L as we work-through our backlog. In addition, we expect pricing adjustments may negatively impact top-line growth in the near-term. In AI, our margins were affected by the transition to new GPUs and managing older GPU inventory. We believe this is an industry-wide challenge that will improve as supply-and-demand align. We have implemented actions to reduce inventory.
Now on to Intelligent Edge, which exceeded our expectations and is ready for growth in Q2. Revenue was $1.1 billion, up 2% quarter-over-quarter, ahead of guidance of flattish growth. Revenue was down 4% year-over-year as we move past post-pandemic-related backlog. We saw double-digit year-over-year growth in SASE and data center switching with notable order growth for wireless land and campus switching. Despite some pressure from weaker federal spending, we grew orders double-digits year-over-year in all major regions. We expect the business to return to year-over-year growth in Q2, given order trends and normalized channel inventory. Operating margin was 27.4%, down 200 basis-points year-over-year, but up 300 basis-points quarter-over-quarter due to higher revenue and cost controls.
Moving to hybrid cloud. We saw broad-based strength, growing revenue 11% year-over-year to $1.4 billion, in-line with our guidance. Sequentially, the business declined 12%. Our HPE MP platform is ramping nicely, adding over 150 new logos this quarter. HPE Electra MP's higher deferred revenue will benefit the long-term P&L, but impacts near-term growth and margin. The transition to Electra MP pulls through more owned IP, which benefits profit. HPE, private cloud AI, continues to attract customers with fast deployment and competitive ROI. We continue to grow our pipeline with opportunities spanning regions and sectors. During the quarter, we received orders for small, medium and large configurations with use cases varying from inferencing and fine-tuning to manufacturing and life sciences. Hybrid Cloud operating margin was 7%, up 300 basis-points year-over-year, primarily due to cost controls, but down 80 basis-points sequentially.
Lastly, financial services. Our financial services business generated $873 million of revenue, up 2% year-over-year and flat quarter-over-quarter. Financing volumes decreased 14% year-over-year to $1.2 billion after a record-high last quarter. Our Q1 loss ratio was 0.6% and return-on-equity totaled 16.4%. Operating margin was solid at 9.4%, up 90 basis-points year-over-year and up 20 basis-points quarter-over-quarter. Moving to cash-flow and capital allocation. Reflecting normal seasonality, we consumed $390 million of operating cash-flow in the quarter and free-cash flow was an outflow of $877 million. Inventory totaled $8.6 billion at the end-of-the period, up $767 million quarter-over-quarter, primarily to support AI systems orders signed during the quarter.
We are focused on reducing inventory levels to normal ranges. Q1 cash conversion cycle was positive five days, up 17 days from last quarter, primarily due to an increase in the days of inventory to support purchases for AI systems, partially offset by an increase in days payable due to timing of vendor payments. We returned $171 million through dividends and $52 million via share repurchases to common shareholders respectively.
Overall, the quarter was within our guidance, but given the performance in server, we took immediate actions to limit hiring, travel and discretionary expenses. We also decided to take further actions in the form of workforce reductions and attrition management to better align our cost structure with the current business needs. This tough decision will help streamline our organization, improve productivity and speed-up decision-making. We will support affected team members with resources and assistance during this transition. We expect to achieve at least $350 million in gross savings by fiscal 2027 with about 20% of the savings achieved by the end of this year. The timing of reductions will vary by geography.
Total cash charges will be around $350 million through fiscal 2026. These savings are in addition to the synergies we will realize after closing the Juniper acquisition. Before I get into the details of our guidance, let me first provide some context. Recent tariff announcements have created uncertainty for our industry, primarily affecting our server business. We are working on plans to mitigate these impacts through supply-chain measures and pricing actions. Through these efforts, we expect to mitigate to a significant degree the impact on the second-half of the year and to a lesser extent, the impact on-Q2 as it takes time to implement mitigations.
The guidance we are providing today reflects our best estimate of the impacts of the March 4 tariffs and our mitigation plans. Also, because we now expect to close by the end of this fiscal year, we will provide full-year standalone guidance. For fiscal 2025, we expect constant-currency revenue growth of 7% to 11% with revenue weighted towards the second-half. We estimate currency impacts of around 150 basis-points. By segment, we expect Intelligent Edge will grow sequentially through the year, equating to year-over-year growth in the mid-single digits. For Hybrid cloud, revenue is expected to grow in the high-single-digits. And for server, we anticipate revenue will slow to low double-digit growth with AI systems revenue ramping meaningfully in the back-half.
In addition, we expect to see more pronounced service seasonality in Q3 given the expected timing of AI shipments. Our outlook assumes non-GAAP gross margin will be below 30% for the full-year with quarterly rates impacted by the timing of AI systems deals. We expect full-year non-GAAP operating margin of around 9% at the midpoint, but we expect to exit the year approaching normal ranges. By segment, we expect Hybrid Cloud operating margin in the mid to-high single-digits and Intelligent Edge to remain in the mid 20% range. Server is expected to improve in the back-half, exiting the year with operating margin around 10%. We expect OI&E will be a net expense of approximately $15 million.
We are guiding GAAP-diluted net earnings per share between $1.15 and $1.35 and our non-GAAP diluted net earnings per share between $1.70 and $1.90 weighted to the second-half. Non-GAAP diluted net earnings per share outlook assumes Q4 will account for a higher percentage of our annual non-GAAP net earnings compared to recent periods. We expect free-cash flow will be approximately $1 billion, including operating profit of roughly $3 billion at the midpoint, negative working capital and the restructuring charges related to the cost-savings we announced today. For Q2, we expect revenue will be between $7.2 billion and $7.6 billion. This range includes a return to year-over-year growth at Intelligent Edge with operating margin in the mid 20% range.
For Hybrid cloud, we expect revenue will be down slightly sequentially with operating margin in the mid-single digits, reflecting seasonality. For server, we forecast a sequential decline in the mid to-high single-digits, including a modest decline in AI systems revenue. Q2 will be the trough for server operating margin in the mid-single digits due to both the timing of tariff implementation and the corrective actions we are taking in the business. We expect GAAP-diluted net earnings per share to be between $0.08 and $0.14 and non-GAAP diluted net earnings per share between $0.28 and $0.34. Lower earnings combined with investments in our AI business will be a headwind to Q2 free-cash flow, resulting in abnormal seasonality. As such, we expect Q2 will be our weakest cash generation quarter during 2025.
In summary, we are confident in our measures to improve our server business. In 2025, we will focus on rightsizing our cost structure, while leveraging AI technologies to enhance our processes, aiming to make HPE more agile and positioned for the long-term. We remain a leader in innovation, encouraged by the strong demand for products like HPE, Elektra MP and Private Cloud AI. The networking market is recovering and our business is performing well. We look-forward to closing the Juniper acquisition later this year.
With that, I'll open the floor for questions.
