Hewlett Packard Enterprise Q3 2023 Earnings Call Transcript

Quartr
Provided by Quartr
August 29, 2023

There are 9 speakers on the call.

Operator

Good afternoon and welcome to the operator. At this time, all participants will be in listen only mode. We will be facilitating a question and answer session. As a reminder, this conference is being recorded for replay purposes. I would now like to turn the presentation over to your host for today's call, Mr.

Operator

Jeff Kual, Head of Investor Relations. Please go ahead.

Speaker 1

Good afternoon, everyone. I'd like to welcome you to our and answer session. Thank you, Anthony. We will now begin the call with Antonio Neri, HPE's President and Chief Executive Officer and Jeremy Cox, with HPE's Interim Chief Financial Officer. Before handing the call to Antonio, let me remind you that this call is being webcast.

Speaker 1

A replay of the webcast will be available shortly after the call concludes. We have posted the press release and the slide presentation accompanying the release on our HPE on the HPE Investor Relations webpage. Elements of the financial information referenced on this call are forward looking and are based on our best view of the world and our businesses as we see them today. HPE assumes no obligation and does not intend to update such forward looking statements. We also note that the financial information discussed on the call that reflects estimates based on the information available at this time and could differ materially from the amounts ultimately reported in HPE's quarterly report on Form 10 Q for the

Speaker 2

for the quarter ending July

Speaker 1

31, 2023. For more detailed information, please see the disclaimers on the earnings materials relating to forward looking statements that involve risks, uncertainties and assumptions. Please refer to the SEC for a discussion of these risks. For financial information we have expressed on a non GAAP basis, we have provided reconciliations to the comparable GAAP information on our website. Please refer to the tables and slide presentation accompanying today's earnings release on our website for details.

Speaker 1

Throughout this conference call, all revenue growth rates are expected to be

Speaker 3

running today. HP delivered another solid quarter. We again increased our revenue, gross margin and earnings per share year over year and delivered strong free cash flow. Our results are being driven by our intentional ongoing mix shift to higher growth, higher margin parts of our portfolio that are critical priorities to customers. Our success in shifting the portfolio delivered 120 basis points year over year non GAAP gross margin expansion, driven by exceptional performance in areas like the Intelligent Edge, where revenue has set its 5th consecutive record quarter And HP GreenLake, which continue to accelerate our strategic pivot, generating higher recurring revenue and gross profit across our 4 product segments, driven by the increased mix of high margin software and services.

Speaker 3

In Q3, our Intelligent Edge business contributed 20% of our total company revenue. It is now the largest source of HPE's operating profit at 49% of our total segment operating profit. Our HP GreenLake Hybrid Cloud Platform is accelerating our as a service pivot, delivering an annualized revenue run rate or AIR of $1,300,000,000 a 48% increase year over year. Our strategic shift toward edge, hybrid cloud and AI delivered throughout this fiscal year and once again we are raising our full year non GAAP diluted net earnings per share guidance. GAAP for full year diluted net earnings per share guidance will remain unchanged.

Speaker 3

For non GAAP diluted net earnings Per share, we are increasing to $2.30 at the midpoint, while maintaining both our full year constant currency revenue growth guidance of 4% to 6% and full year free cash flow guidance of $1,900,000,000 to $2,100,000,000 We will provide more details later in our call today, including on a GAAP basis. Our view of the future. While the broader IT market is still pressure, demand for our product and services grew sequentially in the Q3 segments of our business, driven by high growth areas like AI and HP GreenLake. We continue to seek strong interest in our AI, AI at scale, including using our market leading supercomputers built with 3.5 percent year over year to $7,000,000,000 which exceeded the midpoint of our guidance. Non GAAP gross margin was 120 Higher profitability in the Q3 compared to last year also corresponded to an increase in non GAAP diluted net earnings per share, Which was $0.49 up 2% year over year.

Speaker 3

And we generated $955,000,000 in free cash flow, an increase of nearly $370,000,000 The HPE GreenLake cloud platform is a key driver of financial performance, with our hybrid cloud offerings through the platform continue to attract new customers and compel existing customers to expand their contracts. HP GreenLake orders rose 122 percent year over year, resulting in a nearly $1,500,000,000 increase in our asset service Total contract value since last quarter. Our cumulative booked total contract value now stands at just under $12,000,000,000 The scale and the strength of HPE GreenLake is evident. It supports 27,000 unique customer logos and 3,400,000 connected devices. And more than 1100 partners sell HPE GreenLake, one of the largest partner ecosystems selling as a service offerings in the industry.

Speaker 3

As we grow our AIR, we are also increasing its share of high margin software and services. Software and services increased 2 percentage points sequentially to 68% of the total AR mix, compared to 66% in the 2nd quarter, with ongoing contributions from SaaS offerings tied to our HPE SML software, We are well positioned to continue to for example, we saw a double digit increase in demand with HP Operational Services this quarter, which will contribute to future recurring revenues. The impressive gross margin in our Asset Service recurring revenues of providing one unified hybrid cloud experience to empower customers to access, analyze and extract value from their data, no matter where it lives at the edge, in the colos or data center and in the public clouds. Now I would like to highlight a few important Intelligent Edge revenue increased 53% year over year and operating profit more than doubled in another exceptional quarter for this business segment. I'm particularly pleased that our Intelligent Edge SaaS revenues continue to climb double digits.

Speaker 3

We are gaining share, benefiting from improved availability of supply, high shipment volume and a strong response to our SaaS Edge offerings in terms of both demand and revenue. Momentum in Intelligent Edge was consistent around the globe, with revenue increasing by double digits in all regions in the Q3. One example is the University of Maryland, which wanted a stronger cloud based policy driven wire and wireless network that could provide improved automation, better device visibility and easier and more secure access for students, faculty and staff as they're returning to campus. The university selected HP Aruba Networking for a campus wide refresh to enhance the flexibility, visibility and security of its network through HP Aruba ClearPass, our SaaS platform to onboard new devices, grant varying access levels and keep network secure. The HPC and AI business segment saw a wave of demand acceleration in the quarter, as we converted on AI deal opportunities and shipped orders that leverage a unique end to end AI value proposition from training to tuning to inference.

Speaker 3

As a result, we exited the quarter with the largest HPC and AI order book we have ever had. Our AI momentum also helped grow our total HP order book, which is now at more than 2 times pre pandemic levels, driven by exceptional customer demand for our AI solutions and sequential demand improvements across to our 4 product segments. Only HP can combine our unique AI software and Slingshot networking fabric, HP services offerings and market leading sustainable supercomputers. Our open ecosystem of AI suppliers It's also an advantage for customers who are turning to us for a full spectrum of enterprise AI workloads and use cases, spanning large scale model development, training, tuning and inferencing. Through the U.

Speaker 3

K. GW4 Alliance of 4 in addition, we were selected by Tokyo Institute of Technology Global Scientific Information and Computing Center to build its next generation supercomputer, which is called Subami 4.0, which includes AMD CPUs and NVIDIA's GPUs to accelerate AI driven scientific discovery in medicine, material science and climate research. Recursion Pharmaceuticals is a leading public tech bio company that uses advancement in AI to accelerate and industrialize the discovery of new drugs. Recursion turned to HPE's AI software to scale its foundation model efforts, significantly speed up training across It's more than 25 petabytes of biological and chemical data and improved team collaboration. We are seeing AI projects generate exciting results on our supercomputers.

Speaker 3

For example, the Lumi supercomputer built by HPUs and GPUs It's the fastest system in Europe and the 3rd fastest in the world. It has enabled generative AI projects such as to create the world's largest Finnish language model and to make progress in ushering in the area of exascale which enables unprecedented scale and performance for larger AI models, such as generative AI. This quarter HP in collaboration with the Lawrence Livermore National Laboratory started to build and test El Capitan, one of the largest upcoming exascale supercomputers. El Capitan, which uses AMD CPUs and GPUs, is expected to reach to exaflopo peak performance will allow researchers to apply AI to advance U. S.

Speaker 3

National security and breakthroughs in medical and drug research initiatives. Triple digit revenue growth. Storage SaaS revenue also increased double digits, as we continue to intentionally drive more of HP's Aletra own IP through HP GreenLake. Compute performed well, considering the sector ongoing cyclicality. We saw a decrease in the quarter.

Speaker 3

One area where we anticipate demand picking up in the coming quarters is customers seeking a solution to run AI. In fact, the Q3, we start shipping these servers, which boost AI inference performance by more than 5 times over previous models. And just last week, we expanded our portfolio for enterprise tuning and inference solutions with NVIDIA and VMware to accelerate our customers' generative AI deployment. To round out our major segments in HPE Financial Services, Revenue climbed 7% year over year and financing volume ticked up 6%. HPE Financial Services continue to be strategically important as we continue to ramp up our as a service volumes through HPE GreenLake.

Speaker 3

We continue to strengthen our innovation from edge to cloud, position HP well for the future. In June, we hold an annual HP Discovery event, where we unveiled exciting new edge hybrid cloud and AI solutions to help customers achieve their business goals and gain competitive advantage. At HP Discover, we announced we have entered the AI public cloud market with HP GreenLake for large language models. Available at the end of this calendar year. The offering will enable a wide variety of enterprise customers to privately train and tune their data using our industry leading AI sustainable supercomputed infrastructure and software.

Speaker 3

We also extended our hybrid cloud leadership at HP covered with new HPE GreenLake Hybrid Cloud Services, including our new SaaS based IT operations management solution from our recent acquisition of Ops And to drive faster, easier and more sustainable ways to deploy our HPE GreenLake Hybrid Cloud solutions outside of the data center, We expanded our partnership with colo market leader Equinix, which enable customers to go from quota production in days by using our HPE Greenway customers, our global logistics solutions leaders Swiss Log and Global Company Media House. Swisslog chose HPE GreenLake for private cloud enterprise to help accelerate their automation of its warehouse centers with a cutting edge on premises private cloud that could provide rapid, secure and controlled service delivery. MediaHouse, which owns more than 30 different news brands in Europe, 1 in a modern on premise private cloud to accelerate its deep operational agility mitigate risk and address IT skills gap and advance its digital priorities. At HP Discover, we expanded our HP GreenLake Private Cloud portfolio with HP Early in the quarter, we previewed a new sustainability dashboard on HP GreenLake platform alongside a comprehensive portfolio of sustainability services designed to help organizations reduce the cargo footprint associated with the hybrid IT estate.

Speaker 3

Customers understand that the hybrid IT estate can be one of their biggest sources of operational emissions and have made measuring and reducing the cargo footprint a business imperative. Driving this steady drumbeat of innovation strengthened our HPE GreenLake Hybrid Cloud value proposition for customers to extend our industry leadership, expand our total addressable market and position us well to accelerate the momentum across Edge, Hybrid Cloud and AI in the future. We have been advancing our strategy for the last several years and even a very dynamic market environment, it is clear that our strategy combined with strong execution and a terrific team set us apart. Our 3rd quarter performance demonstrate the progress we have made to shift our portfolio to higher growth, higher margin areas that they are the most critical to customers as they continue to transform. Our pivot to software and services Rich businesses has led to new customer logos, greater recurring revenue, margin, earnings per share and free cash flow.

Speaker 3

This is why we are once again raising our non GAAP diluted net earnings per share guidance. Despite a slowdown in some parts of the IT industry, Our HP team has executed our strategy, bringing differentiated innovation and a diverse portfolio to customers around the globe. This position us to continue to win in the market and deliver for our shareholders. I'm very pleased to pursue these priorities more closely with Jeremy Cox, Whom I appointed as our Interim Chief Financial Officer early this month. Jeremy is an experienced finance leader whose customer centric approach, Institutional knowledge and track record of operational excellence set him up well to serve in this role, while we conduct an internal and external search for our permanent CFO.

Speaker 3

Jeremy will now discuss our quarter financial results in greater detail. So Jeremy, welcome. Over to you.

Speaker 2

Thank you very much, Antonio. I'm honored to take on the responsibility of Interim CFO as we go through the process. I'll start with a summary of our financial results for the Q3 of FY 2023. Antonio discussed key highlights on slide 4. Let me begin with slide 5, financial highlights.

Speaker 2

We're actively diversifying our business mix towards our higher growth, higher margin portfolio of Intelligent Edge, HPC and AI and HPE GreenLake Solutions. This pivot is clearly visible and 120 basis point year over year expansion of non GAAP gross margins. We delivered a solid quarter within an IT market still under some pressure. Cycle times remain elongated and digestion of prior orders will continue to have some near term impact. This has been particularly true in compute and to a lesser extent in storage.

Speaker 2

Despite these challenges, we delivered 3 point 5% year over year revenue growth in constant currency to $7,000,000,000 which exceeded the midpoint of our Q3 revenue guidance. This figure included a modest amount of AI revenue. We do see several promising indicators that suggest stabilization. Antonio mentioned the sequential improvement in demand across our 4 product segments. We're starting to see indicators that our largest customers are returning to the market.

Speaker 2

Intelligent Edge continues to increase revenues rapidly both on a year over year and sequential basis and robust AI demand is evident in our as a service orders. Our non GAAP gross margin rose 120 basis points year over year to 30% the pivot of our business mix to higher margin software intensive recurring revenue such as Intelligent Edge. The Edge mix was up 4.50 basis points year over year. Our Q3 'twenty three non GAAP operating margin reached 10.3%. This is down 120 basis points sequentially and 20 basis points year over after 6 consecutive quarters above the range.

Speaker 2

We expect the impact of compute operating margin cyclicality on HPE's operating margins to decline over time, as our revenue mix shifts towards our higher growth, higher margin businesses. Our Intelligent Edge business reached a record high 29.7 percent operating margin. We remain focused on productivity and continue to expect revenue growth to outpace to growth over time. Revenue and margin performance led GAAP diluted net EPS to $0.35 and non GAAP diluted net EPS to $0.49 which was up $0.01 year over year despite compute cyclicality. It was also $0.01 above the high end of our Q3 guidance range of $0.44 to $0.48 Our Q3 free cash flow was $955,000,000 We continue to return substantial capital to our shareholders, paying $154,000,000 in dividends and repurchasing $187,000,000 in stock this quarter.

Speaker 2

We have now and $831,000,000 in capital to shareholders this year. Moving to slide 6. Our as a service revenue pivot continues to show strong momentum. ARR reached $1,300,000,000 in Q3 'twenty three. The benefits of as a service deals we won in prior quarters are now appearing in our results.

Speaker 2

Though the large AI as a service deals booked in Q3 have yet to reach revenues. Year over year ARR, the 48% growth is above our long term 35% to 45% target and should be viewed as an indicator of our long term momentum rather than as a new growth trajectory. The fastest growing components within ARR year over year are storage and edge. We continue to lift HPE GreenLake's value proposition with an increasing mix of higher margin recurring software and services revenue. Antonio mentioned that in Q3, our software and services mix rose to 68% and should continue to increase.

Speaker 2

While this mix has traditionally tilted to services, software is now half of the total. In the future, we expect software growth to exceed services growth and for as a service margins to rise over time. To slide 7. Our Q3 as a service order growth was robust. We're pleased to have delivered 122 percent year over year order growth, which has raised our cumulative as a service TCV to nearly 12,000,000,000 The driving factor was AI demand.

Speaker 2

A significant percentage of our AI orders have come under the as a service model. And the strength this quarter should also provide confidence in our long term 35% to 45% ARR growth outlook. Order growth will fluctuate given the volatility of large as a service deals. Now let's turn to our segment highlights on the next slide. And remember all revenue growth rates on this slide are in constant currency.

Speaker 2

In Intelligent Edge, we grew revenues 53% year over year, only adopting software centric solutions such as EdgeConnect SD WAN software and our Aruba Central Management platform. We've expanded the Access Security and Sassy funnel to 6 times since the acquisition. Our operating margin 29.7% was up more than 1300 basis points year over year and 2 80 basis points sequentially. We're benefiting from revenue scale and prior pricing actions, which are helping us build visibility into the durability of our mid-twenty margin target over time. While we're making progress on our order book, we expect to carry an above normal order book into FY 2024.

Speaker 2

In HPC and AI, revenue grew 3% year over year. Customer discussions on large language models and generative AI that began in Q1 turned to wins in Q2 and are now showing up as as a service orders in Q3. AI, the growth in as a service dollars has also driven sequential growth in our corporate total order book, which I'll discuss in a moment. We expect AI deals to provide gross margin rates above historical levels. We believe building and operating large AI models requires unique computational capabilities, including silicon and software that our HPE Cray supercomputers and HPC and AI solutions are extremely well positioned to enable.

Speaker 2

As for operating margin, our Q3 performance was just below breakeven. The early stage of the AI market, tightness in certain key components and long lead times in this segment mean that operating margins in HPC and AI will continue to fluctuate. We'll discuss our outlook for revenue. Storage fell 2% year over year, but rose 3% sequentially. HPE Electric is now one of our higher revenue products and thus growth rates may normalize.

Speaker 2

This product is shifting our mix within storage to higher margin software intensive revenue to HPE Alletra. HPE Alletra includes a meaningful component of ratable revenue, which pushes revenue. Compute revenue was down 10% year over year to $2,600,000,000 and down 5% sequentially. The elongation challenges we've discussed previously also a significant driver. But as previously noted, we did see sequential demand improvement.

Speaker 2

And after 6 quarters of above plan operating margins in compute. This quarter's 10.9% was a shade below our long term margin target of 11% to 13%. HPE Financial Services revenues rose 7 year over year and financing volumes of $1,700,000,000 grew 6% in constant currency driven by HPE GreenLake. Our operating margins were down 3.40 basis points year over year, reflecting rapid interest hikes and higher cost of funds that will gradually offset over time through pricing as well as lower asset management margins as supply challenges ease. Time and time again, HPFS has proven resilient in a downturn.

Speaker 2

Thanks to the quality underwriting of our book of business. Throughout the pandemic, our annual loss ratio never exceeded 1% and our Q3 loss ratio of 0.48% even lower than it was in the full year 2019 pre pandemic. Slide 9 highlights our revenue and non GAAP diluted net EPS performance. The progress we're making against our edge to cloud strategy is evident in the financial results we delivered on both the top and bottom lines. We've held and FX rates remaining a significant headwind.

Speaker 2

FX was a 280 basis point headwind to revenue growth in Q3. On Slide 10, we've included a new depiction of our portfolio shift, which illustrates just how significant the Intelligent Edge business has become for HPE. Even 3 years ago, Intelligent Edge constituted just 10% of revenue and this quarter it represents 20%. Operating profit trajectory is even more dramatic. Edge contributed just over 10% of operating profit 3 years ago and is now 49% of total segment operating profit.

Speaker 2

We'll offer our forward looking view at our security analyst meeting. Slide 11 illustrates the progress we've made on our gross margin structure. Our Q3 non GAAP gross margin is up 120 basis points year over year despite FX headwinds. Our year over year non GAAP gross profit and margin growth show the success of our strategic portfolio pivot and the pricing actions HPE has taken. Slide 12 illustrates our non GAAP operating margin, which was 10.3% in Q3.

Speaker 2

This is down 20 basis points year over year, also inclusive of FX headwinds and 120 basis points sequentially. While the primary driver of the sequential decline was the return of compute operating margins to near our target range, We also made certain targeted investments in the quarter to further enable our pivot. Our deliberate portfolio mix shift, pricing strategies and productivity focus put us on track to increase operating margin in FY 'twenty three. On Slide 13, as previously announced, We exercised the put option on our shares in H3C and signed a put share purchase agreement that values our 49 percent H3C stake at $3,500,000,000 The next step in the process is to obtain the necessary regulatory approvals and to conclude certain conditions necessary for closing. We expect to conclude this process in the first half of calendar year twenty twenty four, although this timeline could be further extended pursuant to the terms of our agreement.

Speaker 2

We intend to update our plans for the use of proceeds once the transaction closes. You can assume that we will use the same disciplined, returns based framework for evaluating investments, capital returns and maintaining an investment grade credit rating that we've outlined in the past. Finally, we continue to benefit from H3C dividends in FY 'twenty three. To offer update on our go forward expectations for HRECI dividend at SAM in October. Now to slide 14.

Speaker 2

We generated $1,500,000,000 in cash flow from operations and $955,000,000 in free cash flow. Our Q3 free cash flow improved by approximately $670,000,000 sequentially and nearly $370,000,000 year over year. Similar to our Q4 'twenty two performance. We expect to generate significant free cash flow in the remainder of FY 'twenty three and are reiterating our guidance of $1,900,000,000 to $2,100,000,000 in free cash flow in FY 'twenty three. The timing of receipts and payments plus inventory investments have held cash conversion cycle steady sequentially at 23 days.

Speaker 2

We expect to exit the year with a neutral cash conversion cycle. Now let's turn to outlook on Slide 15. As we've mentioned, the broader IT market is still pressured. Macro uncertainty is affecting some of our end markets, yet customer investment is rising in others such as Edge and HPC and AI. We believe our portfolio differentiation will continue to drive share gains in key markets.

Speaker 2

We are also entering Q4 with an order book that is more than 2 times pre pandemic levels. Our order book has increased from more than 1.5 times pre pandemic levels entering Q3, primarily on the strength of AI. The assumptions in our guidance, which incorporate our current thinking on the macroeconomic picture, demand, inflationary pressure, supply and FX rates remain relatively unchanged. We've indicated throughout the fiscal year that our financial performance is likely to be weighted to the first half of the year. We continue to view this as the proper framework for FY 'twenty three.

Speaker 2

For Q4, we expect revenues in the range of $7,200,000,000 to of $7,500,000,000 We expect GAAP diluted net EPS between $0.36 $0.40 and non GAAP diluted net EPS between $0.48 $0.52 We're reiterating our prior fiscal year 2023 guidance of 4% to 6% revenue growth in constant currency. We expect FX to be a 300 basis point revenue headwind from our previously communicated to 250 basis point headwind. In parallel, we also reiterate our expectation that margin strength from our portfolio mix shift will deliver non GAAP operating growth of 6% to 7%. We're reiterating our GAAP diluted net EPS guidance at between $1.42 and $1.46 due to tax rate differences and additional amortization of intangibles from our recent acquisitions. We're raising our non GAAP diluted net EPS guidance from between $2.06 to $2.14 to between $2.11 $2.15 We reiterate our guidance for free cash flow of between $1,900,000,000 $2,100,000,000 for OI and E.

Speaker 2

We benefited this year from higher interest income and FX hedging costs lower than we originally forecasted. The combination of these and other anticipated benefits in the second half of this fiscal year leads us to expect OI and E to be a positive $50,000,000 to of $70,000,000 on a full year basis. We had previously expected OI and E to be neutral for the full year. In terms of capital returns, We are maintaining our dividend and expect to return approximately 60% of free cash flow to shareholders via dividends and repurchases. So to conclude, the uneven end market demand thus far in FY 'twenty three is an opportunity for HPE to showcase our and we'll continue to take the steps required to further accelerate the pivot of our product portfolio and our company towards faster growth, higher margin recurring revenues.

Speaker 2

We look forward to updating you with HPE's outlook beyond FY 'twenty three at our Securities Analyst Meeting in October. Now let's open it up for questions. Great. Thanks for taking the question. I wanted to see if you could put the AI wins in the same terms you did at the analyst Session you had in June when you had told us you had $1,600,000,000 in awards that was a combination of CapEx.

Speaker 3

And we exit is pretty much the same. So that means throughout the quarter, we booked those deals and we exit pretty much with the same pipeline we came in. So Clearly, the momentum in the business is significant. But as you can see, our progress is showing up in our as a service, which you saw the 122 percent as a service of the growth, which is very significant and that fuel our order book to be now more than 2 and we exit the HPC and AI quarter with the largest ever order book we ever had. Now, we start now shipping some of those orders, those are wins, but it's long ways to go.

Speaker 3

And remember that There's 2 components related to that. Number 1 is availability supply, which obviously in the AI space is Number 2 is the fact that when you deploy these deals, you have to install it and then drive acceptances, which means elongated times for revenue recognition. And then maybe in a specific way or 2, there are other conditions related to the contractual agreements. So the net of this is that what we discussed at the end of Q2 and then during the HP Discover Came all through. And then what I'm really pleased of is the quality of the deals we're getting.

Speaker 3

And I just referenced I'll have a dozen or so in my opening remarks to give a sense of the type of customers we're winning to make sure that you understand the proof points associated with that. And so as we go forward, we expect this moment to accelerate, but the revenue recognition will be different than the, what I call, the demand bookings in our systems, because Obviously, that takes time. In any case, the other thing I will say is that one of the reasons why customers are coming to us It's because we have a complete life cycle of solutions from training to tuning to inferencing. So on training side, obviously, these are companies that develop their own language models, whether it's startups or large unique customers. On the tuning side, which I believe will be one of the biggest opportunity will be when customers use these foundational models that you can get in the market and we can offer over time 5 unique of them in our AI public cloud instance, so they can tune those models with their data in a private, secure, And then number 3, which I'm really excited because it will be an accelerator of both compute and edge is is going to be the AI inferencing.

Speaker 3

And so all those 3 will move concurrently. And so you have to look at this not just the next quarter, but on a mid to long term basis, call it 2, 4 and then 8 quarters.

Speaker 1

Thank you, Simon. Gary, could we have the next question please?

Operator

The next question is from Aaron Rakers with Wells Fargo. Please go ahead.

Speaker 4

Yes. Thanks for taking the question and congrats on the results. I guess I wanted to build on Simon's question a little bit. I think in the context of last quarter and what you had disclosed at the analyst event. You had also alluded to within that pipeline large hyperscale cloud opportunities.

Speaker 4

I'm curious What are you seeing in that vertical? Should we expect that to further expand? Just kind of any context around the positioning within cloud where HP Enterprise hasn't really historically had a material footprint. Why are you winning in that in those opportunities if they're expanding?

Speaker 3

Yes, Eric. So one of the opportunities we won in Q3 was a large hyperscaler. We haven't even started building and shipping that. So that tells you the size of it. And we have further opportunities down as I look at 24.

Speaker 3

The reason why they come to us is number 1 is because we have unique amount of intellectual property. Think about our editors And depending on the AI workload, it can be a mix and match. If you hear my comments, right, in some cases, we have AMD CPUs, in some cases all NVIDIA, in some cases in the case for example of the Aurora system, the Argon that will build surprise and that's why we saw the growth in the HP GreenLake as a service AI bookings because they cannot build that themselves. And the other piece of this is the ability to consume this in a sustainable way. I think sustainability is and then the data center services which are essential to run these massive at scale AI solutions.

Speaker 3

And then for the large language model companies, one of the things that attract them to us is not just all of the things I just said, It's the fact that working with us, they can get access to our route to market, so they can reach enterprises in ways potentially they couldn't by themselves. So it's a combination of multiple things that they are all coming our way, I will say. But ultimately, our strategy is a software less strategy, using our supercomputer as a cloud kind of experience and then wrapping around all the services and the software needed to provide that level of capability.

Speaker 1

Thank you, Aaron. Gary, could we have the next question, please?

Operator

The next question is from Meta Marshall with Morgan Stanley. Please go ahead.

Speaker 5

Great. Thanks. Maybe taking a second on the Intelligent Edge business, Can you just kind of give a sense of what is the biggest forward driver that you're seeing? I think people understand kind of the Catch up spend and the backlog release that has been done, but just what you're kind of seeing in ongoing kind of orders Today and is that Wi Fi 6, is it still kind of return to work? Just what are the biggest drivers that you're seeing to kind of help Continue the growth of that business.

Speaker 5

Thanks.

Speaker 3

Well, thank you for the question. I'm incredibly proud of the work we have done in the Intelligent Edge Business segment. This is the opportunity I highlighted in 2018, where I said we will invest over the next 4 years to build the right solutions that ultimately that will allow customers to drive what I call a data first digital transformation. So it's a combination of things. Number 1, return to work, obviously, you need to have the right connectivity.

Speaker 3

Number 2, in order to process the data, you need to connect devices and things that are essential, right, in order to provide the right cloud experience on those types of workloads and applications. But our portfolio is unique because we provide edge to cloud networking capabilities. Our strength obviously has been always in the campus and branch. We see that to transition to Wi Fi 6. In fact, we shipped more than $30,000,000 ports so far with the Wi Fi 6.

Speaker 3

By number of Point and ports, we are one of the largest, if not the largest, I will say. And also now that drives the 26,000,000 ports we drove in the switching side, which was the thesis when I acquired Aruba in 2015. Over time, we have made this all cloud native, And we have added to it. And so as we look forward, what I'm excited is that we are delivering more capabilities and expanding our time with the same So we added software defined wide data network. 3, 4 years ago was a niche market.

Speaker 3

Now it's a very large market, more than $5,000,000,000 in the TAM. And that's why we did the acquisition of Silver Peak. Now that's integrated in the same control plane with HP GreenLake as a part of the Aruba experience. And now we just completed the acquisition of Axis Security. So I take Axis Security.

Speaker 3

So we are integrating ATHENET, which provide both core 5 gs, software defined solutions and private 5 gs at the edge. All of this comes under a cloud native model. Bottom line, it is one of the most comprehensive portfolio out in the market and no surprise obviously with the growth we have. Obviously, we are converting more of our order book, but we exit the Q3 and we expect to exit Q4 with a significant elevated order book in as we enter 24. And you can see the results right now represent 20% of the company revenue and Almost half of the company profit.

Speaker 3

And so the mix shift had really worked for us in this particular part of the portfolio as it is now with Green Lake as well.

Speaker 1

Thank you, Meta. Gary?

Operator

The next question is from Asiya Merchant with Citi. Please go ahead.

Speaker 6

Great. Thank you for taking my question. If you can, storage was up sequentially, which was a positive and it Seems like the HPE Eletra is getting traction. As you think about the Q4, the fiscal Q4, if you can provide some guidance on how you're thinking about your storage portfolio, both on the top line as well as when you think margins kind of get back to, I think the target margins, which are much higher than where they are right now. Thank you.

Speaker 3

So let me start and I will pass it to Jeremy. The team and I drove an intentional strategy to pivot that portfolio, which was A conglomerate of different offerings that we built over 15 years or so to one consistent architecture that allows customers to consume Data services, both primary and secondary in a cloud native way in a subscription based model. So HPE Alletra is our primary storage that now covers pretty much all the price segments or the price bands, if you will, of the traditional storage from general purpose to business critical to mission critical, and we address block and file. And in the future, we're also going to address the object piece. So as a customer, you can now subscribe to HP GreenLake, deploy one consistent back end infrastructure, whether it's in a colo, at the edge Or in your own data center and consume hybrid cloud data services.

Speaker 3

And you can put block type of Solutions or file and then eventually, Object, which is a significant CapEx reduction for customers because they don't have to buy 3 different ways to deploy it and an OpEx reduction because obviously, it's very efficient to manage in a cloud type of experience. And so this business went from 0 to an excess of $1,000,000,000 very, very quickly. And it's amazing that we it's one of the fastest Growing double digits. So maybe, Jeremy, you want to take the second part to the question, how

Speaker 2

we see these above 14% is deferred onto the balance sheet. And so as we see that work off over time as that product is deployed out, we'll start seeing inflection point and that should positively impact revenue as we look forward particularly into FY And that also has an impact on the margin line too. As that deferral is deferring,

Speaker 3

we saw demand improving Q1 to Q2 and Q2 to Q3, and that's very positive. And we expect that to show up as we go forward As we transition those orders into revenues.

Speaker 1

Yes. Asiya, thank you. Gary?

Operator

The next question is from Samik Chatterjee with JPMorgan. Please go ahead.

Speaker 7

Hi, thanks for taking my question. I guess you mentioned a couple of times in your prepared remarks about the cyclicality in Compute business, which is a headwind. Maybe if you can outline your thoughts on where we are in the cycle? Is there more downside to revenue and margins as we move to fiscal Q4 or you did reference a demand improvement. So I'm just sort of curious, does it imply fiscal 3Q is sort of the Neutom trough here in the business and more perhaps this year from backlog and still enable you to grow in fiscal 2024, if you can share

Speaker 3

Sure. So first of all, I think it's important to recognize that The traditional general purpose compute business go through these cycles, right, last in the unit level also drives attach. And as I referenced in my remarks that unit demand together with the storage demand and obviously acceleration we saw in HPE GreenLake drove double digit growth in operational services, which obviously It's important as we think about rentable revenue and profit as we're looking for the future. Now, we have this unique expectation of the company because in the past, we wanted to give you visibility of what is general purpose compute and what is HPC and supercomputers. But when you combine the 2 is what I refer to the server category, because in the end, there is a server component associated with that And there is different IP you bundle depending if it's general purpose or supercomputer.

Speaker 3

And the combination of General purpose compute, as you refer, and HPC and supercomputers demand clearly improved very nicely quarter over quarter. I think as I think about 2024 as a server category, I think you're going to see the continued improvement in demand on HPC and AI. I think the AI inference related to compute will be an after the rate of for compute. And then we have to see the evolution of price in the commodity space, which you will expect sometime in 2024 again, because as demand stabilize and improves, cost of commodity will start going up. And remember, we also have a transition in the making, will drive over time AUPs up.

Speaker 3

I don't know if, Jeremy, you have anything to add.

Speaker 2

Maybe I'll pick up on the margin side of that Antonio. Obviously in these cycle times, we've I think we've proven that in down cycles where commodities are declining, causing declines in AUP. We've been able to hold pricing to drive margin. And then as it inflects back and turns back up, we've been able to be leading market leaders on pricing to make sure that we're catching it appropriate on that. So our expectation is as that changes throughout this process on top of the point that Antonio made about GEN 11 really driving an AUP premium for us, which can also be an impact.

Speaker 2

We still expect that 11% to 13% operating profit structural range to be reflective of what our longer term

Speaker 3

But let me reinforce one important point, because if you go back 2 years or 3 years, whatever was the cyclicality at the time, Which always expect margins to improve. The strong performance we had in that mix shift more than offsets The cyclicality we saw in compute, which is very evident in our Q3 results because our margins improved again 120 basis points. If you go back 2 years ago, our margins at the company level were in the 33s. In 2022, we're in the 34s. And in 2023, we are in the high 35%.

Speaker 3

And that's why software and services with Intelligent Edge and hybrid cloud and now we will be able to manage the cyclicality computing much, much better.

Speaker 1

Thank you, Samik. Gary, could we make this our last question, please?

Operator

And our final question will come from Wamsi Mohan with Bank of America. Please go ahead.

Speaker 8

Yes. Thank you. Antonio, you're exiting this year with a high single digit decline in revenues and Edge clearly is doing extremely well and some benefit from backlog. How confident are you that HPE can grow revenues in fiscal 2020 for given the current exit trajectory of the business. You also noted some stabilization.

Speaker 8

So curious to get just some high level thoughts, not explicit guidance maybe, but some directional commentary on how you could see that playing out.

Speaker 3

I think your comment is related to Q4, right? So obviously, we have the Supply start improving Q4 and you saw that in Q1. So to me, it's just a lapping of the numbers. But that said, we're going to talk this at the Security Analyst Meeting. We expect revenue to continue to improve in fiscal year 24.

Speaker 3

We're going to tell you exactly what that will look like. But I will say that while revenue will improve year over year, and remember in Q1 we're also going to have a big lap Because Q1 revenue was $7,800,000,000 The fact of the matter on a yearly basis, right, this year we are growing 4% to 6%. And Jeremy talked about the headwind we saw in the FX, which is now 300 basis points. So we are growing faster than what we guided you at the beginning of the year, which was 2% to 4%. We are now growing 4% to 6%.

Speaker 3

And we expect revenue to continue to improve because of these momentals we have in the businesses, but we'll guide you a specific percentage at the Security Analyst Meeting. And but the other important part is that the mix of the revenue is changing and the gross margin mix is Changing. And also the way we generate free cash flow is changing. And so more to come when we talk at the Security Analyst Meeting. Okay.

Speaker 3

I know that unfortunately you have to cover a lot of companies today and I understand HP Inc. Is about to start the call. I hope you can see from this quarter results how our strategy is working. We are delivering our commitments. We always do what we say.

Speaker 3

And we are shifting successfully our portfolio. And so despite some aspects of the market being a little bit more challenged than others, We'll continue to grow revenue, we'll continue to expand margins, and we'll continue to improve our net earnings per share on a non GAAP basis. So, I'm looking forward to see you at the Security Analyst Meeting in October. We're going to have it in New York, so it's a little more accessible. So, I hope to See you soon.

Speaker 3

And if you have any questions, we'll follow-up with you offline. Thank you for your time today.

Operator

Ladies and gentlemen, this concludes our call for today. Thank you for attending. You may now

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Earnings Conference Call
Hewlett Packard Enterprise Q3 2023
00:00 / 00:00