Quantum Corporation (NASDAQ:QMCO) Q3 2023 Earnings Call Transcript

Quantum Corporation (NASDAQ:QMCO) Q3 2023 Earnings Call Transcript February 2, 2023

Operator: Greetings. Welcome to the Quantum Corporation’s Third Quarter Fiscal 2023 Financial Results Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. Please note, this conference is being recorded. I will now turn the conference over to your host, Brian Cabrera. You may begin.

Brian Cabrera: Good afternoon and thank you for joining today’s call to discuss Quantum’s third quarter fiscal year 2023 financial results. I’m Brian Cabrera, Quantum’s Chief Administrative Officer. Joining me today are Jamie Lerner, our Chairman and CEO; and Ken Gianella, our CFO. This afternoon, we issued a press release which you can access under the Investor Relations section of our website at www.quantum.com. We are using a slide presentation in conjunction with today’s call, also accessible under the same section of our website. During today’s call, our comments may include forward-looking statements. All statements other than statements of historical facts should be viewed as forward-looking. These statements include any projections of revenue, margins, expenses, adjusted EBITDA, adjusted net income, cash flows, or other financial items.

These statements may also concern the expected development, performance, and market share or competitive performance of our products or services. All forward-looking statements are based on information available to Quantum as of today’s date. We advise caution in relying on these statements as they involve known and unknown risks and uncertainties we refer to as risk factors. Risk factors may cause our actual results to differ materially from those implied by the forward-looking statements, including unexpected changes in our business. We include detailed information about these and additional risk factors under the sections labeled the Risk Factors in our quarterly report on Form 10-Q and annual report on Form 10-K, which we file with the Securities and Exchange Commission.

We do not intend to update or alter our forward-looking statements, whether as a result of new information, future events or otherwise, except of course, as we are required by applicable law. Please note that our press release and the management statements we make during today’s call will include certain financial information in GAAP and non-GAAP measures. We include definitions and reconciliations of GAAP to non-GAAP items in our press release. If you are unable to listen to the entire call at this time, we will make a recording available for at least 90 days in the Investor Relations section of our website. Now, I would like to turn the call to our Chairman and CEO, Jamie Lerner. Jamie?

Jamie Lerner: Thank you, Brian and thank you all for joining us today. Earlier today we announced our results for our third quarter of fiscal 2023 with revenue results that exceeded the high end of guidance and a significant year-on-year improvement in our operational performance. Turning to slide three, here’s a brief overview of the results from the quarter. We finished the quarter with $111.2 million in revenue, which is above the preliminary results we announced in January and represents an increase of 17% year-over-year, and also the highest quarterly revenue results since I joined the company. Gross margin improved sequentially to approximately 36%. Adjusted EBITDA increased sequentially and year-over-year to $6.3 million, driven by improved product mix and lower operating expenses.

And we exited the quarter with approximately $15 million of shippable backlog, which is within the range we expect to maintain going forward. Now turning to slide four, I would like to share some operational insights from the quarter. We delivered year-on-year revenue growth in almost all segments of our business, including another strong quarter of hyperscale tape sales. We still see several high pockets of supply constraints, but see promising signs as the supply chain for tape drives and other components continues to improve. Inflationary costs remain elevated in most cases, but as lead-times come down and the market improves, we are cautiously optimistic. Next, I would like to give an update on the rest of our portfolio. We had a strong quarter in our video surveillance business and although that market is characterized by large deals and long sales cycles, we’re encouraged by the traction we have seen since we acquired the PIVOT 3 surveillance business last year.

We continue to be recognized for our technical innovation and in December, we were acknowledged with three more surveillance industry awards. We also saw positive year-on-year growth with our data protection business in all three geographies and enterprise IT departments continue to invest in their data protection infrastructure, and strengthening cybersecurity. Turning to slide five, I would like to give you an update on our transformation progress. Our end-to-end portfolio is really coming together, it is resonating with customers and partners, and our customers want to do more with Quantum. As we introduce new products and convert and expand our customer base, we will continue to grow recurring software revenue as we laid out during our Investor Day in November.

One of our key strategies to drive growth is to expand our selling motion from point products to selling end-to-end solutions within large organizations. I’m encouraged by the evidence of early success we’re seeing with this model, particularly in Europe and Asia. I would characterize those recent regions as being approximately a year ahead of our North American business in terms of their ability to sell the whole portfolio. As I stated in the past, growing our software and systems business in North America will be a key driver for both future revenue growth and improved gross margins. We have made investments in the North American sales teams to drive growth in historically strong segments for us, such as media and entertainment, and the US Federal Government.

Over the past year, we have also invested in the infrastructure and tools to end our enterprise selling capabilities and broaden our footprint in large accounts. While I anticipate this transformation to continue into fiscal 2024, we are pleased with the progress we are making. We are also continuing to –. We are introducing new software features of tire port portfolio. And we have begun briefing key customers and industry analysts on the next generation storage software that we mentioned at our Investor Day. So far, the feedback has been very positive and we’d expect to begin early access trials this quarter in advance of announcing publicly in the first half of next fiscal year. This new product will further strengthen and differentiate our portfolio and allow us to participate in some of the fastest growing segments in data storage.

We’ll be able to talk more about this exciting new offering in the near future. Turning to slide six, I would now like to introduce our new CFO, Ken Gianella. Ken joined Quantum on January 12th as our Chief Financial Officer and succeed Mike Dodson. I’d like to take a moment to thank Mike and acknowledge the transformational work he accomplished at Quantum as well as his financial leadership through a very challenging period. Mike will remain with the company in an advisory role until August. Ken has extensive financial and operational experience at technology companies. And his background makes him well suited to help lead us through the next phase of our strategic priorities, which include driving EBITDA expansion, delivering consistent operating results, and delivering improved value to our shareholders.

Photo by Joel Filipe on Unsplash

Ken, welcome to the team. And I’ll turn it over to you to walk through the financial results.

Ken Gianella: Thank you, Jamie. It’s a pleasure to be on the call today and I’m extremely excited to be here at Quantum and for the opportunity that lies ahead as we advance the strategy that you, Mike, and the rest of the leadership team started. With that, let’s get into it. Please turn to slide seven and I’ll provide an overview of the financial results for our fiscal third quarter. As previously highlighted by Jamie, revenue increased 12% sequentially in 17% year-over-year to approximately $111 million, which was above the preliminary results were announced in early January. This also represented the highest quarterly revenue in the last five years. Earnings per share improved over 89% year-on-year to a $0.02 per share loss on a combination of improved operational performance and lower operational expenses, which were down 9% year-on-year.

Both GAAP operating income and adjusted EBITDA were the highest since fiscal 2021. Looking at other metrics in Q3, shippable backlog at quarter end decreased to approximately $15 million from $20 million last quarter as supply constraints improved. As we are cautiously optimistic about the improving supply chain situation, we expect to maintain shippable backlog in a range of $10 million to $15 million going forward. Active subscription software’s annual recurring revenue or ARR increased approximately 20% sequentially and approximately 84% year-over-year to $11.2 million on over 660 cumulative active customers as our subscription software continues to gain traction. Now, turning to slide eight, I would like to break down this quarter’s revenue results.

Primary storage revenue was up 1% compared to prior year and up 42% sequentially to $14 million. Contributing to the sequential growth in primary storage was a solid uptick in both our StorNext File storage software and PIVOT 3 video surveillance solutions. As with the last few quarters, the biggest mover continues to be our secondary storage systems, with revenue increasing 66% year-over-year and 15% sequentially to $50.7 million or 44% of total revenue as we saw strong orders from both our enterprise and hyperscale customers. Next, turning to devices and media. While there were some sequential improvement, revenue was down approximately $3 million or 24% year-over-year, primarily due to less global demand for tape cartridges in the period.

Turning to our services business, the revenue was essentially flat year-over-year. The results reflect year-over-year growth in ARR, driven by new active subscriptions, by a continued decline in support renewal revenue due to end of support life on legacy products. We anticipate services revenue will be maintained around this level in the near-term. And finally, royalties declined year-on-year as we saw less global demand for tape cartridges. Now turning to slide nine. Let’s review our third quarter fiscal 2023 GAAP results. GAAP net loss in the third quarter was $2.2 million or a loss of $0.02 per share compared to a net loss of $11.1 million or a loss of $0.19 per share in the prior year third quarter. This improvement was driven by significantly higher revenues and lower operating expenses due to prior restructuring actions and other cost controls.

Now, please turn to slide 10 for non-GAAP metrics. Non-GAAP gross margin was 36% compared with 37.3%in the prior year and 35.4% sequentially, both driven primarily by product mix. With the significant revenue contribution from lower-margin hyperscale sales, this product mix largely offsets the cost reduction initiatives and other favorable pricing actions taken over the last year. As Jamie mentioned, sales and product mix improvements are a top priority in support of expanding gross margins and driving increased EBITDA. On a non-GAAP basis, operating expenses decreased approximately 5% year-over-year to $34.5 million in the third quarter due to cost controls and a traditionally lower end of calendar year costs. We expect operating expenses to be approximately $1 million higher in the fourth quarter due to end of year commissions, seasonally higher payroll taxes and other inflationary pressures.

Non-GAAP adjusted net income in the third quarter was $1.6 million or $0.02 per diluted share compared to an adjusted net loss of $4.6 million or a loss of $0.08 per share in the prior year. The significant year-over-year improvement in both bottom line results reflects the company’s previously implemented cost reduction actions, combined with strong topline growth. And finally, adjusted EBITDA increased to $6.3 million compared with $758,000 in the prior year. The improving EBITDA for the quarter is a combination of achieving scale at higher revenue levels, improving product mix and continuing to implement cost controls. Now please turn to slide 11, where I’ll give an overview of our debt and liquidity at the end of December. Outstanding debt split between term and our revolver was $103.6 million, slightly down from prior year levels.

Cash and equivalents at the end of the third quarter were $26 million compared with $4 million a year ago. Our net debt position of $77.6 million gives us a street net leverage of seven times our trailing 12-month adjusted EBITDA. When looking at our bank calculation, there are a few adjustments to the trailing 12-month adjusted EBITDA calculation, such as FX and inventory provisions, which give us a bank net leverage of 4.6 times. All of these factors put us in a good place heading into the fourth quarter. Turning to other liquidity metrics. Interest expense in the third quarter was $2.7 million compared with $2.4 million in the prior year. Adjusted working capital was approximately $73 million, up year-over-year and sequentially on higher inventory receipts at the end of the quarter.

And finally, we would like to work down our DIO numbers over the next few quarters, but overall, cash conversion metrics remain strong. Now, please turn to slide 12 for a look at the company’s fiscal fourth quarter guidance. First, we anticipate total revenue in the fourth quarter to be $102 million, plus or minus $2 million. At a midpoint, this would equate to a year-over-year growth of approximately 7%. The expected sequential decrease from the third quarter primarily reflects seasonality experienced at the beginning of the calendar year. This is combined with the expected normalization of shippable backlog in the supply chain going forward. We expect non-GAAP adjusted net loss per share to be $0.04 plus or minus $0.02 per share based on an estimated 93.3 million shares outstanding.

Adjusted EBITDA for the fourth quarter is expected to be approximately $0.5 million. To give some color on the non-GAAP EPS and adjusted EBITDA guide, there are a few factors I would like to highlight. For the fiscal fourth quarter, we anticipate a two to three-point reduction in gross margin sequentially due to product mix that will temporarily impact our performance this quarter. This is combined with the previously discussed operating expense factoring in such as end of year commissions and other inflationary increases that will have a near-term impact to our results. Looking forward, we do anticipate margins and EBITDA to bounce back as we take actions to improve in future quarters. Before turning the call back to Jamie, I want to emphasize that although I’ve been here a few weeks, I’ve hit the ground running.

In conjunction with Jamie and our executive team, we are actively exploring ways to accelerate our operational plan with margin expansion, improving profitability with product and structural cost initiatives, and looking to accelerate growth and innovation with the introduction of new software, products, and services in the coming year. Thank you for your time, and I look forward to meeting you all soon. With that, I’ll now hand the call back to Jamie for closing remarks.

Jamie Lerner: Thanks Ken. We had a great quarter, and we’re constructive on the progress we’re making. While not always a straight line, I’m really encouraged by the direction and improvements to our sales model by the recovery in the supply chain and our development of an end-to-end portfolio and upcoming new product introductions. As Ken mentioned, while we are cautiously optimistic heading into this new year, we’re not standing still. We are actively working to increase margins and profitability, looking to accelerate efforts to drive cost out of our operations, and we’ll continue our innovation to remain a global leader in managing and storing unstructured data. With that, let’s open it up for questions. Operator?

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Q&A Session

Operator: Thank you. We will now be conducting a question-and-answer session. Our first question comes from the line of George Iwanyc with Oppenheimer. Please proceed with your question.

George Iwanyc: Thank you for taking my question Jamie, maybe starting with the progress you’re seeing on the sales front. You highlighted pretty strong results in Asia and Europe. How do you see those types of patterns being replicated in North America, like what are you focusing on nearer term?

Jamie Lerner: Yes. The model is based on deploying sales resources into our highest margin end markets. And that has traditionally been large enterprise, certain segments of media and entertainment, and large federal governments. And so, what we’ve been doing is going into the largest geographies, going after the largest companies and also going after segments of, again, a government business, public sector business that have traditionally been very successful for us. So, it’s really been about going to where the margin is.

George Iwanyc: Okay. Thank you. And maybe digging into the seasonality you’re seeing, when you maybe look further in the year, what kind of patterns should we anticipate, given the visibility you have right now?

Jamie Lerner: I would expect we have a pretty well-worn pattern that’s played out for quite a few years. So, I would expect us — and some of those patterns, we came off of a little bit with upheaval from supply chain or upheaval from the pandemic, but we see ourselves returning to more of the Quantum classic seasonality with kind of a softer Q4 and then it’s building up for our strongest quarter being Q3.

George Iwanyc: Thank you. And then maybe just 1 more question for you, Ken, and congratulations on joining Quantum. So, when you look at product mix, can you kind of give us a sense of how you see that progressing from a margin perspective through the year?

Ken Gianella: Yes. Thank you, George. Well, one of the things that we wanted to focus on with this Q4 is going to be a bit of an anomaly with what we saw the growth coming back with. If you look at the work that we’ve done over the prior year, we had a lot of work on margin improvement and fixing that mix. But this quarter coming up, Q4, we see particularly large volume of hyperscale, coupled with a unique customer deal that we had to be a little bit aggressive on because we wanted a real good proof point in the healthcare space, particularly genomics, to be more precise. And gaining that proof point in a sector that has a lot of unstructured data, modeling management of large quantities of that unstructured data was important for us to grab.

And so, we got a little bit ahead on the pricing than where we saw our cost downs coming on that product set. But we think that’s going to start normalizing heading into Q1 and into the rest of the 2024 fiscal year. So, I think you’re going to start seeing that normalize. As Jamie said, we’re seeing progress within — across the geos, particularly in our primary storage space. We see that continuing into the new year and that’s really where we feel more comfortable with the strength on the margins.

George Iwanyc: Thank you.

Operator: Thank you. Our next questions come from the line of Craig Ellis with B. Riley Securities. Please proceed with your question.