Hewlett Packard : Q2 2023 Earnings Transcript

Hewlett Packard Enterprise

Second Quarter Fiscal 2023 Earnings Conference Call

Tuesday, May 30, 2023, 6:00 PM Eastern

CORPORATE PARTICIPANTS

Antonio Neri - President, Chief Executive Officer

Tarek Robbiati - Executive Vice President, Chief Financial Officer Kirt Karros - Senior Vice President, Treasurer and Investor Relations

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PRESENTATION

Operator

Good evening and welcome to the Second Quarter Fiscal 2023 Hewlett Packard Enterprise Earnings Conference Call. My name is Chuck, and I'll be your conference moderator for today's call. At this time, all participants will be in a listen-only mode. We will be facilitating a question and answer session towards the end of the conference. Should you need assistance during the call, please signal a conference specialist by pressing the "*" key followed by "0." As a reminder, this conference is being recorded for replay purposes.

I would like to turn the conference over to your host for today's call, Mr. Kirt Karros, Senior Vice President, Treasurer and Investor Relations. Please proceed, sir.

Kirt Karros

Thank you, Chuck and good afternoon, good evening, everyone. I'm Kirt Karros, Senior Vice President, Treasurer and Investor Relations for Hewlett Packard Enterprise. I'd like to welcome you to our fiscal 2023 second quarter earnings conference call with Antonio Neri, HPE's President and Chief Executive Officer and Tarek Robbiati, HPE's Executive Vice President and Chief Financial Officer.

Before handing the call to Antonio, let me remind you that this call is being webcast. 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 Investor Relations web page. Elements of the financial information referenced on the 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 any such forward-looking statements.

We also note that the financial information discussed on this call 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 fiscal quarter ended April 30th, 2023. For more detailed information, please see the disclaimers on the earnings materials related to forward- looking statements that involve risks, uncertainties and assumptions. Please refer to HPE's filings with the SEC for a discussion of these risks.

For financial information, we've 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. Throughout this conference call, all revenue growth rates, unless otherwise noted, are presented on a year-over-year basis and are adjusted to exclude the impact of currency. Finally, after Antonio provides his high-level remarks, Tarek will be referencing the slides and our earnings presentation throughout his prepared remarks.

With that, let me turn it over to you, Antonio.

Antonio Neri

Well, thanks, Kirt, and good afternoon. Thank you everyone for joining today. In the second quarter, HPE increased total revenues, drove larger contributions from recurring revenues and expanded overall profitability. I attribute this gain to two primary factors. First, our strategy to build our portfolio to higher growth, higher margin areas is working. And second, we are operating with strong discipline.

Hewlett Packard Enterprise

Tuesday, May 30, 2023, 6:00 PM Eastern

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In a market that continues to be dynamic, we grew our revenue 9% year-over-year to $7 billion. Our annualized revenue run rate or ARR increased 38% year-over-year to $1.1 billion. We grew year-over-year revenue across our key segments except in Compute. With our Intelligent Edge and High Performance Computing and AI segments delivering particularly standout growth even though the potential in our HPC and AI segment was somewhat impacted by customer acceptance of certain large deals.

HPE achieved exceptional profitability in the second quarter, increasing our non-GAAP gross margins a full 200 basis points to 36.2%, a new record. Our deliberate portfolio mix shift strategy supported by our operating discipline helped us generate a non-GAAP operating margin of 11.5%, up 220 basis points from a year ago.

Non-GAAP diluted net earnings per share rose 18% year-over-year to $0.52 at the high end of our second quarter outlook. Free cash flow generated in the quarter was nearly $290 million, an increase of about $500 million from the prior year.

As a result of our second quarter performance and our expectations that profitability will increase this fiscal year, we are raising our full-year GAAP and non-GAAP diluted net earnings per share guidance. Tarek will share further details about our full-year updated guidance, including operating profit expectations later in our call.

Our portfolio diversification is a clear strength in winning the business of customers who are taking a data first approach to modernize their IT updates. The relevance of our strategy at the edge in hybrid cloud and in AI delivered through our HPE GreenLake edge-to-cloud platform, is enabling us to navigate the dynamic macroeconomic environment.

In the second quarter, we saw some decline in the health of macroeconomic conditions, causing unevenness in customer demand, particularly in general purpose Compute. We also see unevenness when comparing customer size, industry, or geography. European, Asian, and mid-sized company deals are holding up better than expected, while large enterprise businesses and customers in certain sectors such as financial services and manufacturing in North America have been more conservative with their spend.

In the last few months, sales cycles have elongated because customers are more reluctant to quickly commit to large projects or some will seek additional internal approvals at the time of the order. We continue to focus on our sales processes to accelerate closing deals wherever possible.

Our order book at the end of Q2 remains elevated at more than 1.5 times the size of normalized historical levels. In the area of high growth, Intelligent Edge, HPC and AI, and HPE GreenLake business, order books are especially large.

Before I provide some business highlights, I want to be sure you saw the announcement we made last Friday related to our relationship with H3C Technologies. After successfully closing negotiations, we announced that UNIS will purchase all our shares in H3C for $3.5 billion in cash, subject to certain required regulatory approvals and closing conditions.

Importantly, from the China market perspective, we are pleased that we have agreed to the terms of a new go-forward commercial agreement that we will enter with H3C. Tarek will share more in his remarks.

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Our HPE GreenLake platform continues to power the growth of our software, infrastructure, and services, capturing more than $10 billion dollars in total contract value for the first time this quarter. HPE GreenLake also drove our ARR to $1.1 billion dollars in the second quarter - with an increasing portion coming from margin-rich software and services, which now is 66 percent of our total ARR mix.

Our as-a-service business continues to expand our opportunities pipeline, though orders this quarter dipped slightly 8 percent year-over-year. This was driven by a very tough comparison to fiscal Q2-2022, when orders more than doubled. We have had a great ramp with our HPE GreenLake for Private Cloud Enterprise offering, which advances customers' hybrid cloud environments with a consistent, intuitive cloud operating experience. Global engineering company Danfoss selected HPE GreenLake for Private Cloud Enterprise as part of an effort to transform its global IT strategy. With HPE GreenLake for Private Cloud Enterprise, the company evolved its IT to an agile, sprint-based environment that aligns the right workload on the right platform - all while significantly reducing their carbon footprint.

We continue to innovate on the HPE GreenLake edge-to-cloud platform. To complement our organic innovation, earlier this month we completed our acquisition of OpsRamp, whose hybrid digital operations management solutions have enhanced our HPE GreenLake platform by providing visibility, observability and control across multi-vendor and multi-cloud IT environments. We are already getting very positive feedback from customers and partners. With the integration of OpsRamp technology into HPE GreenLake in Q3, we entered a $39 billion dollar IT Operations Management market. HPE GreenLake is a performance driver across our portfolio, and we are seeing its value across our business segments. Let me provide a few segment highlights …

Intelligent Edge had a stand-out quarter. HPE Aruba Networking has exceeded our expectations in revenue and margin terms, in part because customers are adding more cloud software services to recently delivered infrastructure, which will add to recurring revenue in future quarters. This is the second consecutive quarter of more than $1 billion dollars in revenue in this segment, and the eleventh consecutive quarter of year-over-year revenue growth. We continue to drive innovation and expand our addressable market at the edge. Through our acquisition of cloud-security provider Axis Security, we have expanded our SASE - Secure Access Service Edge offering - and with the soon-to-close purchase of Athonet, we are doubling down on private 5G. The combination of Axis Security, Athonet, and our world-class HPE Aruba Networking intelligent edge capabilities, gives HPE one of the most comprehensive, connected edge portfolios in the market. We expect this business to continue to grow in the quarters ahead.

In our HPC & AI business, we saw a significant sequential increase in orders this quarter, with a noteworthy uptick across customer segments - from Fortune 500 companies, including a large cloud provider - to digital-nativestart-ups, looking for optimized AI supercomputing solutions. HPE is winning in AI because we deliver an end-to-end portfolio designed for the full spectrum of enterprise AI workloads and use cases - spanning large-scale model development, training and inferencing. Customers are attracted to HPE's market-leading supercomputing capabilities, differentiated interconnect IP, AI-specific software, and services expertise.

Since the start of the second quarter, we have won multiple large contracts totaling more than $800 million dollars from large cloud providers and enterprise customers that will develop, train and run AI models. Most of these contracts exceed $100 million dollars each. We expect this

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pipeline to continue to grow and anticipate these deals will generate significant revenue in later quarters.

For example, in Q2, HPE won an AI-focused deal with Crusoe Energy, a cloud provider pioneering infrastructure that taps into stranded energy - like wasted methane or trapped renewable energy - to power compute resources. Using HPE Cray supercomputers as its generative AI foundation, Crusoe will enable customers to train and run large-scale AI models in a sustainable way. Crusoe's mission is to align the future of computing with the future of the climate, and this deal enables a significant offering of a climate-aligned supercomputing service solution.

Just last week, the Top 500 supercomputer list was released, and HPE systems comprised more than one-third of the Top 100 most powerful systems in the world, including Frontier in the number one spot. In this latest evaluation, the performance of Frontier, the world's first exascale supercomputer jumped by another 8%.

In the quarter, we recognized a portion of the total revenue of our second exascale system called Aurora for Argonne National Laboratory. Aurora will develop a series of generative AI models to run on HPE Cray EX supercomputer, which includes HPE Slingshot, a proven Ethernet Interconnect that can scale to the system's more than 60,000 GPUs and more than 21,000 CPUs. Aurora is expected to deliver more than two exa-flops of peak compute performance. Argonne plans to open the generative AI models to the scientific community for a range of research, including an initial focus on accelerating drug discovery and cancer research.

AI is a significant profitable growth opportunity for HPE and our shareholders in a space where HPE has unique differentiation evident in the momentum of our business. In just few weeks, we will host our annual customer event HPE Discover, where we will make breakthrough announcements in HPE GreenLake, hybrid cloud and AI solutions that we anticipate will accelerate the demand for a differentiated portfolio. We hope many of you will join us in Las Vegas to see our strategy and diverse offerings come to life firsthand.

In our Storage segment, our pivot to IP-owned products continues to get traction in the market, shown by the impressive ramp up of HPE Alletra offerings. HPE Alletra revenue increased more than 100 percent year-over year. In April, we announced new storage services - HPE GreenLake for Block Storage and HPE GreenLake for File Storage. The new services leverage HPE Alletra storage to simplify data lifecycle management with intuitive cloud operations -- to store, manage, and protect customer data, wherever it resides. In the month between launch and the close of the quarter, customer orders for the solutions were strong.

For example, the Dallas Cowboys selected HPE GreenLake for Block Storage because they believe the simple management, efficient scale and high performance delivered by a new solution will add even more value to their IT operations that customer experience.

In Compute, our continued focus on pricing discipline has added to the segment's profit contribution. We continue to see some sluggishness from large accounts, many of which have placed large orders when industry supply was more constrained. As we look ahead, we are focused on unit growth in other segment of the market.

We are executing our strategy and delivering strong results, including year-over-year revenue growth, record gross margin, and expanded earnings. HPE's year-over-year revenue growth,

Hewlett Packard Enterprise

Tuesday, May 30, 2023, 6:00 PM Eastern