Western Digital Corporation (NASDAQ:WDC) Bank of America 2024 Global Technology Conference June 4, 2024 1:40 PM ET
Company Participants
Jasmine Nouri – IR Manager
Wissam Jabre – EVP and CFO
Conference Call Participants
Wamsi Mohan – Bank of America
Wamsi Mohan
Thank you for joining us at BofA’s 2024 Tech Conference. Delighted to see many familiar faces over here in the room. I’m Wamsi Mohan. I cover IT Hardware and Supply Chain for Bank of America. We are delighted to welcome Western Digital here to this session today. We have EVP and CFO, Wissam Jabre, we also have Jasmine Nouri from IR from Western Digital. It is a privilege to have you both. Thank you so much for taking the time. We really appreciate it. I think Jasmine, you wanted to read some disclosures before we get started.
Jasmine Nouri
Thank you. Yes. We will be making forward-looking statements in today’s discussion based on management’s current assumptions and expectations, including with respect to our product portfolio, business plans and performance, market trends and dynamics and future financial results. These forward-looking statements are subject to risks and uncertainties.
Please refer to our most recent Financial Report on Form 10-K and our other filings with the SEC for more information on the risks and uncertainties that could cause actual results to differ materially from expectations. We will also be making references to non-GAAP financials and a reconciliation of our GAAP and non-GAAP results can be found on our website. Please go ahead.
Question-and-Answer Session
Q – Wamsi Mohan
Yeah. Thank you, Jasmine. Well, Wissam, I mean you had a 20 year history of working in sort of the finance area across so many different companies. And you are sitting here at Western Digital in front of what feels like a very unique opportunity. When you think about some of the big themes and trends that are going on, particularly in AI, I was wondering if you could comment on what do you see as what the impact of this AI adoption might be for your business, both on the HDD and Flash side?
Wissam Jabre
Great. First, thanks, Wamsi. Happy to be here. Great question. So from an AI perspective look, I think AI will be impacting many parts of our lives. And for that from a technology perspective, which will impact many of the sections of the markets that we target, whether on the PC side, on the mobile side, or on the cloud side, there will be some form of increase of storage needs. And so either — that basically on the flash side translates into additional flash content in PCs and potentially in mobiles and even on the gaming side.
And we also are starting to see – since last quarter obviously, the enterprise or the cloud market come back, even though it’s not necessarily AI driven. That also has an element of — potentially of an AI element to it. On the hard drive side, we continue, obviously, as more and more of the GenAIs models generate data, the need for storage will be even — will increase. And if you think of data in the form of movies or images that need for storage will increase even more.
And typically, with GenAI also data itself will be even more valuable. And so as a result, people will store data for longer. So we see that helping both sides of the business. Now in terms of quantifying it, we are not there yet, but we’re — we continue to work through that to enable us to understand a little bit more how to quantify it in a bit more sort of detailed way.
Wamsi Mohan
Okay. Okay. That’s helpful. We just had one of your competitors up on stage a little while ago, talking about sort of the favorable pricing environment, at least on the HDD side of the business. Curious if you could comment on what the pricing environment looks like, both on the HDD and on NAND side?
Wissam Jabre
So if I start with the flash business, the pricing environment has been favorable. It’s mainly obviously driven by supply and demand. And as you’ve seen it over the last couple of quarters, we’ve seen some good uptick in pricing. We do see that supply-demand picture, not changing much over the next few quarters. And so the pricing environment is expected to remain favorable. But on the hard drive side also, we are seeing a favorable pricing environment. But at the end of the day, a lot of it also is driven by the strong portfolio and the ability to deliver the best portfolio for our customers. And so as long as we are able to continue to develop really an outstanding set of portfolio, whether on the hard drive or on the flash side, that would also help us.
Wamsi Mohan
How should we think about the capacity on both the HDD and Flash side? I know over the last few years, it’s been a difficult demand environment, a lot of capacity got taken out. So as you think about incrementally investing in capacity, what are you looking at? What are your thoughts around adding incremental capacity, given it sounds like at least on the HDD side, demand starting to potentially be outstripping supply before year-end. And on the NAND side, clearly, we’re entering a much tighter market?
Wissam Jabre
Yes. So on both sides of the business, we really are focused on driving profitability. We’ve had several quarters of losses, and we are in an environment where we want to focus on our profitability. And so if you think of the hard drive side, as you mentioned, we’ve reduced our manufacturing footprint as we started seeing the cyclical downturn a little bit more than a year ago. And so we are now — have the right manufacturing capacity where we see — relative to where we see the demand for our products in the mid-term. And so for us really the focus is on being able to drive the profitability and we are not necessarily focused on the CapEx or capital investment.
On the flash side, as we were going through the cyclical downturn, we reduced the supply — we basically reduced the utilization in our fab. Now that sort of is more or less back to normal utilization. And similar there we would like to see the profitability of our business basically achieve the target margins of the 35% to 37% through cycle, and we are not there yet.
So what that means is, obviously, we were many quarters below those levels. And so we’d like to see a few quarters above those levels, but also would like to have conviction and sustainability of the demand before we’re able to make significant capital investments. Because ultimately, any capital investment we make, it’s based on an ROI and then we would like to be able to justify our investment, we’d like to see a potential return.
Wamsi Mohan
Yes. Got it. Okay. No, that’s been a very consistent message from you, I think over the last several quarters. Can you just talk about underutilization charges? Are we expecting any to continue here in the near-term?
Wissam Jabre
So we don’t have much. I mean on the flash side, we no longer have that. And on the HDD last quarter, we had a little bit. We did say this quarter, there may be a little bit, but it’s not significant enough to really call it out.
Wamsi Mohan
Okay. Okay. Can we just talk about sort of what your expectation is on the cost side, both on the HDD and flash side, rate and pace of caustic lines that you can accomplish with, call it, next two years?
Wissam Jabre
So the focus for us and targets haven’t changed. As we transition from technology on the flash side. As we transition from memory technology to another, whether going from BiCS5 to BiCS6 to BiCS8, we continue to aim to that mid-teen percentage cost reduction. That obviously is something that is fully ingrained in how technology is developed. It is — the memory technology that our team develops they focus on driving that cost reduction as well as the capital efficiency in addition obviously to the increased bit density. So that hasn’t changed.
On the hard disk drive, we continue to execute on our road map, which is basically continuing to increase the capacity points by executing on our ePMR, OptiNAND, SMR type of products, which is a technology that is very well understood. We’ve been manufacturing for many, many years. It’s very reliable.
We can manufacture millions of drives on it. And so with that, the same — the picture of the cost reduction is unchanged at various prior periods. So there, it is not going to be obviously as high as the — or sort of as low depending on how you look at it as the flash. But it is still within the sort of low double-digit percentage points.
Wamsi Mohan
Okay. Great. Yes. Obviously you’ve announced your intention to split the company up into an HDD and flash-based company. Can you just remind us of the time line there and sort of some of the work and the progress that’s being made on that front?
Wissam Jabre
So we have — a lot of progress is being made. We have many, many people across the company working on that, whether on focusing, getting the sort of the companies really meaning the legal entities in various jurisdictions as well as systems. Getting the — focusing on our filings that we need to make as part of the process, as well as getting the PLR as we want to do a tax-free spin. We are still targeting towards the end of the year. The spend and there is, as I said a lot of focus and tremendous work going on that.
Wamsi Mohan
Yes. Well, that’s really exciting. So as you think about these businesses operating as independent entities. How do you think about the margin structure of these two entities? What should we think about the longer-term view on right on the flash side?
Wissam Jabre
So look, our target margins haven’t changed. We’re still — we’re not at the point where we are changing our target margins. If you look at the hard drive business last quarter, we delivered more than 31% gross margin. Typically that level of margin needs to be generated at a much, much higher revenue level. And so with the — what we did during the cyclical downturn, we took a lot of action to restructure the business and improve on the cost structure.
And that basically positioned it towards — in a much better place to benefit from the cyclical recovery. And on the flash side, obviously, as I mentioned earlier, we’d love to see that through cycle, achieving 35% to 37% gross margin to enable us to obviously drive the return on our investment. And so those — the targets are still for a hard drive, 31% to 34% through cycle and for flash 35% to 37% through cycle.
Wamsi Mohan
And it seems as though the demand backdrop is generally improving, whether it be at hyperscaler or potentially even enterprises starting to pick up. So it feels with that kind of backdrop where the demand is improving, the pricing environment is improving and you are already at sort of within your long-term ranges, previous long-term ranges. Should we really take that — these numbers, given the mix shift towards even higher capacity drives are potentially several hundreds of basis points higher this cycle than what we saw maybe 35%, 36%, 37% gross margin ranges. How realistic is that? And do you think that we could get there over the course of the next, call it, two years?
Wissam Jabre
So look, we are just getting close to where our target margins are. So it’s a little bit — let’s see how we execute and perform over the next few quarters, and that would give us a better — a bit more confidence as to where the future could take us. But going back to your previous question with regard to the spin and the target models, I mean, obviously as we get closer to the date of the spin, we would be hosting Investor Day to talk more about the details with respect to the target models, of course in addition to things like cap structures and other types of financial information that would be of interest of many people.
Wamsi Mohan
Yes. No, we’re absolutely looking forward to that. How should we be thinking — or how are you thinking about capital allocation priorities and use of cash, maybe in the interim period before the split?
Wissam Jabre
Yes. So obviously, we’ve returned to generating cash last quarter, and our focus is still on strengthening our balance sheet. So any opportunity we have to reduce that. This is what we are going to be focusing on as we also get ready for the spin.
Wamsi Mohan
Can you comment a little bit on sort of the traction that you’ve seen on the enterprise SSD side, right? Like, I mean going back many, many years and original — the SanDisk acquisition that you guys made has been an aspiration to really get higher share on enterprise SSDs. So can you just remind us where you are now? What’s your expectation for that business?
Wissam Jabre
Yes. So we do have a few cloud customers qualified on the enterprise SSDs. Those were qualified before the cyclical downturn started. And unfortunately, during the down cycle, demand wasn’t as high. Starting last quarter, we’re starting to see the demand come back. And so that obviously — we should see some improvement from — in terms of demand for those products as the year progresses. In addition, we are quantifying a PCIe Gen 5, sort of compute focused enterprise SSD that is geared more towards more of the AI type workloads. That sort of is also going through qualification. And so from a portfolio perspective, obviously in addition to our strong presence in client SSD and consumer, the flash business has probably one of the best portfolios it is ever had.
And that is really very positive because it helps us continue to have the flexibility and the optionality to place our bids as we see, obviously where we see the demand coming in.
Wamsi Mohan
How long do you think those qualifications will take on the PCIe Gen 5 and (indiscernible)?
Wissam Jabre
I think it’s probably going to be sometime in the second half. They’ll be probably qualified sometime in the second half of this year.
Wamsi Mohan
Okay. Great. Can you talk a little bit about your progress with BiCS6 and BiCS8 and where you are? And what sort of percentage mix investors should expect next couple of years as we start to see more and more of the productization of BiCS8.
Wissam Jabre
Yes, of course. So let me first say, the BiCS5 was probably one of the most capital-efficient. No, this is our predominant move today that we’ll ship flash products on. And BiCS6 for us is going to be what we call a stop-down which means it is not going to be a full load. We don’t plan to convert all of the product portfolio from BiCS5 to BiCS6. The BiCS8 will be the next big node, which is where most of the — if not all of the portfolio will be transitioned from BiCS5 to BiCS8.
From a product perspective, we’ve launched the first, I think, QLC based on BiCS5 for client SSDs. We’re also working on a TLC based on BiCS6 for enterprise SSDs. And so BiCS6 will be the next node that will be shipping later this year. And then when it comes to a BiCS8, the technology is more or less ready. Of course, our engineering team is still fine-tuning and perfecting it. But we are not at a point where we see the need for it to be ramped. Simply because to ramp the production, obviously, we will need capital investment. And as I mentioned earlier, our capital investment decisions will be based on us seeing improved profitability in our business. So that’s where I think the BiCS8 will come in. But it is really a matter of time at this stage.
Wamsi Mohan
Do you want us to give us a little bit of a sneak peek into what you are announcing next week, I think you have a very dedicated NAND presentation to the investor community. Any little snippets that we should think about? As we tune into the event?
Wissam Jabre
Well, I guess the — I’m going to keep the excitement, I would say please tune in. I think it’s going to be called the New Era of NAND. It’s hosted by our EVP and GM for the flash business, Robert Soderbery, and it promises to be exciting.
Wamsi Mohan
Excellent. We look forward to that. Well, maybe switching gears a little bit to the HDD side. Can you just talk about your expectations for exabyte growth for maybe this calendar year that started?
Wissam Jabre
So I mean, the exabyte growth for the HDD industry is still — long term, it’s expected to be in the 20% to 25% range. So we haven’t moved from that. Obviously, the last — we still see sequential improvements for the rest of the calendar year from where we were at the end of the March quarter. So the cloud demand has come back, and it seems to be — we continue to see, as I said earlier, good sequential improvement, at least for the rest of this calendar year.
Wamsi Mohan
So last quarter, in the March quarter, you outgrew your nearest competitor by a substantial amount from an exabyte growth standpoint. Can you talk about what some of the drivers were that created that really in the quarter?
Wissam Jabre
So look we — I guess it starts by having really a great portfolio. I mean we have really great set of products on the hard drive side that are — that help our customers drive down their TCO, but also it helps us continue to execute, as I said earlier, on our road map, which is continuing to build products on the technology that we’ve built products on for many, many years. That allows us to deliver that continuous improvement from a capacity point perspective.
In a very predictable way, as well as focus on the cost side of things for us and provide the TCO for our customers. Where we continue to obviously execute on the road map that we discussed several times over the last few quarters, which is really going from continuing to improve, and we have line of sight getting into the high 30 terabyte using that ePMR and OptiNAND and of course UltraSMR and SMR, as part of our technology strategies.
Wamsi Mohan
Can you just talk about that a little bit? So I mean, clearly this is one of the few times where you and your nearest competitor are diverging in terms of timing of launch of new technology, so to speak, right? I think you both entered the energy assist market kind of at the same time, but now your productization of HAMR seems to be at a later time, which you think is supported by the rest of your portfolio. So it still supports very good profitability and your crossover point, I think, you said is around the 40 exabyte range. Can you just talk about a – like what is the timing that investors should expect for WD from its launch of HAMR? And what do you think is the margin headwind, what would have been the margin headwind of introducing HAMR at an earlier point in time?
Wissam Jabre
So look, we’ve been developing HAMR for quite some time. Our engineers have been working on it for quite some time. but we don’t think, it is ready for prime time. And really, the decision is mostly around economics. When you look at — this is why we think the best — sort of a good point for interception is that 40 terabyte point. Because this is where the economics become more favorable for the HAMR technology.
But in terms of the technology itself, our engineers and our engineering teams have been working on it for quite some time. They know what is required to qualify HAMR products. But we also will continue to execute on our current road-map with ePMR because this is where it is a technology that is very well understood that we see visibility of getting into the high-30 terabyte point. And it is also a technology that has really great cost point. It allows us to continue to drive cost down. It allows our customers to have the best TCO. And until sort of that economic order of 40 terabyte, there’s no need for us to even transition to HAMR.
Wamsi Mohan
And you just mentioned like for economic reasons, that is the timing that works, but were you to have launched HAMR earlier? What would have been the economical impact or the gross margin impact potentially that you are avoiding by not doing this earlier?
Wissam Jabre
Well, the way I would say it, Wamsi, is obviously, we are focused on our current technology. Because at the end of the day, we focus — we are also focused — I started off by earlier saying that we’re focused on the profitability of our business. And so we think that our current technology and our current portfolio will allow us to be more profitable at these capacity points. And so — and also not only for us, but also be able to deliver a good TCO for our customers and so I will leave at that.
Wamsi Mohan
Okay. SMR-based shipments were 50% of shipments last quarter. How do you see the trajectory of that? And what are some of the gating factors or challenges associated with shipping SMR drives because there has to be some work at the customers end to sort of qualify these trades and potentially rearchitect a little bit. So would love to get your perspective on how the trajectory of that is tracking? And what kind of traction you have at multiple customers around SMR?
Wissam Jabre
Yes. So yes, I mean, you are right in terms of working with our customers to qualify SMR and be ready for it. They have to do some work on their side. But so far, it’s been very well received. There is a lot of good traction. We have many of our key cloud customers adopting it. And as you said, last year — last quarter, it was more than 50% of our sort of high-capacity drives. I expect that trend to continue in the future and improve on that because we are seeing some really good traction from our customer base.
Wamsi Mohan
Okay. Great. We will — just five minutes left. I’d love to see if anyone in the audience has any questions. If there are any, do raise your hand, we can get a mic to you and if not — then I got a few more. So maybe stepping back a little bit, Wissam like as you think about the last few years have been quite challenging in terms of just the demand environment and the inventory correction that has happened. Are you seeing any areas where there is still incremental inventory that exists that needs to get flushed out anywhere within the business? Or at this point like all of that is behind you?
Wissam Jabre
So I think the last area where we saw that sort of it came back was the enterprise SSD. So the cloud on the SSD side. And it looks like this is also now behind us. That was sort of the last piece of the puzzle. Because we started seeing cloud come back on the hard drive earlier. But of course on the consumer and client, we saw it also come back earlier. So from a — if I have to guess from an inventory perspective. We are more or less there I think, generally speaking.
Wamsi Mohan
Yes. And then can you just talk about the capacity rationalization and maybe like some way for investors to think about if you step back and say, we optimized our capacity during the downturn given the headwinds. Any way to quantify that even in loose terms to think about how much capacity came out of the system. Because when we spoke earlier about adding back capacity, you want to hit certain gross margin profitability metrics before that. But how much actually was taken out during that. And it would be helpful to get that both from a capacity standpoint, but also from an OpEx standpoint?
Wissam Jabre
Yes, sure. Look, the — what we’ve done — I mean, we’ve done a lot of work during the downturn to focused on the cost structure, whether on the manufacturing side or on the operating expenses side. And obviously, the whole idea was to get ourselves from a cost perspective in a much different point as — and position ourselves really well for the cyclical recovery. But that also was meant to be done without impacting the — obviously, the investment in the portfolio to allow us to also come out with a very strong set of products as we exit the cyclical downturn.
So on the hard drive is where most of the capacity reduction took place. We’ve reduced our client manufacturing footprint by 40%. If you think of it from a cost perspective, fixed versus variable, we basically reduced approximately our fixed cost on the hard drive side by approximately 15%, if you compare it to where we were at the end of fiscal year 2022. And so this is why now we’ve improved the operating leverage on that business. And so we would be able to generate better margins at lower revenue levels than lower volumes.
On the OpEx side, we also took out quite a bit of cost out of the system. If you also compare to that more or less same point end of fiscal 2022, we have taken out anywhere between $100 million to $150 million per quarter. Now some of that — obviously, some of that had to do with some of the variable comp. But I would say, roughly speaking we’ve taken on as much. Yes, which was done very — in a thoughtful way that doesn’t impact our investment in products. And this is how you see us — today, looking at our company with really both on HDD and flash side with a great set of products because we continue that focus as well.
Wamsi Mohan
Yes. No, we are excited to see the margin flow through, come through because of all these hard actions that you’ve had to take over the last couple of years. Maybe to wrap it up, I would love to get your perspective on what do you think the market is missing about the WD story? Or what do you think is most misunderstood about the WD story?
Wissam Jabre
Well, I think, look, the — for us, we are in a cyclical recovery. We continue to focus on getting the best out of it. As I mentioned, we have a great product portfolio. We continue to execute well on that. We have more or less favorable — more favorable pricing environment. In parallel, we continue to focus also on the spin and being ready to launch these two great public companies and unlock value for our shareholders. So that’s our story.
Wamsi Mohan
Yes. Great. Very exciting times. Well, thank you so much, Wissam. Really a pleasure to have you back on stage with us, and appreciate your time very much.
Wissam Jabre
Thank you so much for having us. Thank you.
