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NetApp's 1Q Dull, Guides Cautiously

Zacks Equity Research

NetApp Inc. (NTAP) reported first quarter fiscal 2013 adjusted earnings per share (EPS) of 25 cents, which was in line with the Zacks Consensus Estimate. Adjusted EPS excludes amortization of intangible assets, acquisition-related expenses, non-cash interest expense as well as investments and tax gains, but includes stock-based compensation expenses.


NetApp reported first quarter revenues of $1.44 billion, down 0.9% from $1.46 billion in the year-ago quarter. The revenue was within the company’s guidance range of $1.40–$1.50 billion. The revenue deceleration was mainly due to decline in Product revenue, which is bit surprising given its solid performances in the past quarters.

The quarter witnessed solid geographical contributions from America and Asia-Pacific. But revenue growth was adversely affected by the slowing demand from the U.S. federal government and constrained European spending.

Product revenues were $898.0 million in the quarter, down 7.0% from $965.7 million reported in the year-ago quarter and accounted for about 62.2% of the total revenue.

Software Entitlement & Maintenance revenues were $218.5 million, up 10.2% from $198.2 million in the year-ago quarter. The segment’s revenues represented around 15.1% of the total revenue.

Service revenues were $328.1 million, up 11.5% from $294.3 million reported in the year-ago quarter. The segment accounted for 22.7% of the total revenue.

Operating Results

NetApp reported gross profit of $850.1 million, representing a 5.2% year-over-year decrease. Gross margin dropped 270 basis points (bps) year over year to 58.8%.

Total operating expenses increased 6.8% from the year-ago quarter to $769.9 million. This was mostly due to an 11.5% rise in research and development expenses. Operating income fell 54.5% from the year-ago quarter to $80.2 million. Operating margin was 5.6%, down from 12.1% in the year-ago quarter.

Net income on a GAAP basis was $63.8 million, or 17 cents per share, compared with $139.5 million, or 34 cents in the prior-year quarter. The quarter’s result was on the lower end of the company guided range of 34-39 cents.

Excluding the above-mentioned special items, but including stock-based compensation, adjusted net income was $92.6 million or 25 cents per share, compared with $177.0 million or 44 cents a year ago.

Balance Sheet & Cash Flow

NetApp exited the quarter with cash, cash equivalents and investments of $5.44 billion, roughly flat with $5.40 billion in the previous quarter. Receivables were $584.2 million, down from $830.9 million a quarter ago. Inventories increased $42.2 million from the prior quarter to $203.7 million. The company bears no long-term debt. But 1.75% convertible senior notes amounting to $1.22 billion is due in 2013.

Cash generated from operations of $229.2 million was nearly half of $582.6 million generated in the prior quarter. Capital expenditure in the quarter was $61.9 million, up from $124.2 million in the year-ago quarter.


For the second quarter of 2013, NetApp expects revenues in the range of $1.5 billion to $1.6 billion, representing a 7.0% sequential growth and 3.0% year-over-year growth.

Non-GAAP gross margin is expected in the range of 60.0–61.0%, while non-GAAP operating margin is projected at roughly 13.5% (+/- 0.5%). GAAP EPS is expected to range between 23 cents and 28 cents, while non-GAAP EPS is expected between 45 cents and 50 cents. The company estimates shares outstanding of approximately 370 million and a tax rate of 17.3%. The Zacks Consensus Estimates for the second quarter and fiscal 2013 are 33 cents and $1.52, respectively.

Our Take

The quarter’s results were mediocre with the bottom line matching the Zacks Consensus Estimate. Continuous margin contraction due to cost increases remained the main challenge. Keeping in mind the ongoing macro uncertainty caused by the European debt crisis and federal budget cuts, management guided a cautious second quarter.

But we believe NetApp will be able to sustain its growth story and remain a key player in the virtualization and network storage market based on product launches and strategic acquisitions. With its latest Engenio takeover, NetApp will now be able to address the video storage market as well as high performance computing applications like genomics sequencing.

However, we are cautious regarding the impact of new product launches from EMC Corp. (EMC) on NetApp’s fundamentals, going forward.

NetApp currently carries a Zacks #3 Rank (short-term Hold rating).

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