Western Digital Corporation (NASDAQ:WDC) Credit Suisse 26th Annual Technology Conference November 29, 2022 11:35 AM ET
Company Participants
David Goeckeler – Chief Executive Officer
Wissam Jabre – Chief Financial Officer
Conference Call Participants
Shannon Cross – Credit Suisse
Shannon Cross
Good morning, everyone, thank you for joining us. My name is Shannon Cross and I am the IT Hardware Analyst here at Credit Suisse. I’m now joined by the CEO and CFO of Western Digital, David Goeckeler and Wissam Jabre. So prior to getting started Wissam is going to read the Safe-Harbor statement.
Wissam Jabre
Thanks, Shannon. Happy to be here. We will be making forward-looking statements and I ask you to refer to our SEC filings for the risks associated with these statements. 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.
Shannon Cross
Great. So with that, David, you joined as CEO in March of 2020, nothing happened since then, it’s been smooth sailing and Wissam, you joined in January of this year. So maybe if you can give us a bit of what you’ve — what surprised you the most about Western Digital? What strategy you’re most focused on? just a little bit as an introduction and then we get into Q&A.
David Goeckeler
So first of all, thank you for having. It’s great conference, great group here. We’re super happy to be here. Yeah, March of 2020, right at the start of the pandemic, it’s been interesting 2.5 years and we’ve made a lot of changes in the business that, I think, now in the downturn that we’re all facing or showing up. I’ll talk a little bit about those. I think — big-picture, Western Digital for me, why I came to Western Digital was validated, when I got here, which is two really good technology franchises that I thought that was in really good markets, where there is sustained demand for storage and data storage, and that has played out.
Obviously, it’s a bit of a cyclical business, but I think long-term consumption of technology and the rise of [Technical Difficulty] we can play that all kinds of different ways. I think another thing that was very refreshing, strategically just from a multi-billion dollar consumer market, where we sell all-around the world and do hundreds of millions of transactions a year with consumers to selling to the largest technology companies in the world. Enormous amounts of storage capacity for the most sophisticated datacenters in the world and then PC’s, smartphone, channel business, kind of everything in-between. So the broad visibility we have into the market is something that has been really, really helpful as we navigate through an environment like we’re in right now.
But before I talk about the business little more, maybe Wissam, he has been here almost a year now or coming up on a year, it’s been an exciting year.
Wissam Jabre
It’s been a very exciting year. And just — I think Western Digital is a great place to be. The company has a great technology, great leadership great set of — great portfolio, great roadmap, as well as top talent. It’s got all the ingredients to be a very successful technology company, especially with the focus on innovation and growth.
Question-and-Answer Session
Q – Shannon Cross
Great. So, no, maybe jumping into the fire for verbal. Can you talk a bit about what you’re seeing in terms of the macro? And both for NAND as well as on the HDD side? And what you’re hearing from customers as they look to 2023?
David Goeckeler
Yes, I’ll walk through all the markets we see and the visibility we have. But I will — I’ll start by saying a little bit follow-up to your first question. A lot of the — I think it’s in times of stress that’s when the strategy of business really shows up and everything that we’ve been working on in the last couple of years. And I think a lot of the decisions we’ve made are really starting to show through in the performance of the business. I’ll start with — we invested in our balance sheet, we retired $2.7 billion worth of debt over the last couple of years, we restructured a lot of our debt earlier this year and I think that serves us well going into this kind of period versus where we were the last time we went into a downturn.
We’ve made a lot of organizational changes, built a lot of agility into the organization as one way I’ve thought about this is how do we build an organization that can respond to a very dynamic market that we’re in. I think we just saw — we’re in a very challenging period. We just sequentially were able to lower our OpEx spend by $70 million sequentially. I think that’s a combination of the visibility we have and what we saw coming and our ability to actually flex the organization to respond to the environment we’re in, so I feel good about those changes. And then the resiliency of the business, which is the innovation that we’ve been driving and the portfolio is as strong as it’s ever been.
On the NAND business, we built out the enterprise SSD business. We’re obviously still heavily invested in mobile. We have a very enviable consumer franchise. We sell into PC OEM. So we have very broad distribution and very broad set of end markets we can play into. And that’s showing up that even when very, very stressful pricing environment in the NAND business, we’re still going to see sequential bit growth into Q4. And I think that that’s calendar Q4. That’s an example of this resilience we’ve built in the portfolio and our routes to market and the diversity of markets we can serve.
And then on the HDD side, we’ve got market leading products within 22T and 26 Ultra SMR products that as we go through ‘23 we’ll be ramping into those. Now the current environment is, obviously — we’re coming out of a pandemic where a lot of companies built a lot of inventory in different markets. And we’ve seen — throughout the year, we’ve seen kind of this rolling view through a — rolling situation from one market to another. It started in consumer, we saw weakness in consumer earlier in the year. We saw that in the summer move into the PC OEMs really started to go into an aggressive inventory reset. We’re now seeing that kind of stay — we’ve seen the consumer business stabilize more or less. It’s much more predictable than it was throughout the summer. Pricing is still challenging, but the business is more predictable. Some of our models of how we’ve seen this business behave from quarter to quarter and really week to week, month to month and quarter to quarter are working and we have, I think, more visibility there now of some stabilization.
As I said, the PC market went into a very, very severe inventory correction that we’re still in, but we talked about this a little bit in our earnings call. We’re seeing some stabilization on a unit basis. We’re not out of the woods yet. It’s going to go on for another several quarters probably, at least we’re seeing some stabilization in units and in NAND we’re seeing elasticity kick in and the amount of storage per unit is going up. And now, of course, we’re moving into the data center, big data center operators are going into an inventory correction and we’re kind of in the early stages of that and I think that will be a multi quarter phenomenon as well. So we’re kind of seeing this rolling through all of those markets. The ones that went in earlier are starting to stabilize and we’ll come out of it as we go through ‘23.
I think on top of that, you’ve got China, which has been kind of throughout the entire year has been pretty quiet across all markets and we continue to see that to be pretty quiet. Maybe some small signs that as we go into ‘23, there’ll be a little bit more of the cloud spending come back, but it’s very, very early there.
Shannon Cross
Maybe if you can talk a bit about your decision to push out BiCS6 and thoughts on what could drive incremental demand on the NAND side? And how we should think about the implications of that decision?
David Goeckeler
Yes. So clearly, the industry is oversupplied in NAND and we need to slow down bit supply. So everybody is slowing. I think the industry is reacting well, everybody is slowing down bid supply. They’re doing that by pushing out CapEx, which means you’re going to push out nodal transitions as the first lever in doing that. And for us, that’s delaying BiCS6, pushing that out a bit. That will make the BiCS6 node a shorter node and then we’ll move to BiCS8. I created a lot of confusion on our earnings call, quite frankly, when I put the BiCS8 name out there, that was kind of an internal name. We were calling it BiCs plus, but it is the next node after six, there never was a seven. So we’re basically going to — six will become a shorter node. We have a lot of confidence in the BiCS8 node, which is the 200 layer plus node that that will be a very good node for us. And we’ll just move to that faster and that’ll be a way that we will push out our CapEx and control the investment right now and slow down the bid supply into the industry.
We still have the optionality on underloading the fab. If that’s something we want to do, it’s still something we consider. If things get worse, it’s a lever we still have to pull and it’s something we actively consider, but something we’re not doing right now.
Shannon Cross
And just to clarify with Kioxia and the underutilization that they’ve decided to undertake, a lot of lenders there anyway. There’s no impact to your margin profile or business?
David Goeckeler
No, the way the JV works is, that’s all accounted for in the JV. And so in the last downturn, Western Digital decided to underload the lab and incurred all the costs for that. And then this time, if Kioxia decides to do that, they have decided to do that, that will all come out in the JV accounting that the costs will be appropriately allocated.
Shannon Cross
And how are you thinking about pricing within NAND, if one of your — one of the competitors is no longer really active in the market over time, the capacity is down. Eventually, somebody will want to buy NAND again, run through their inventory and unless everybody shuts the lights out, we all go home. So how should we think about pricing?
David Goeckeler
Well, I think the essence of the question, the long term thesis there, people are still creating data, people are still consuming NAND. I mean, it’s — we’re all more technology enabled than technology dependent than ever before. That’s something I’ve been saying since the pandemic. I mean, that’s not going to change. So — but clearly, we’re in an environment where during the pandemic a significant amount of inventory was built in different markets. Now we’re coming out of a pandemic. We’re going into a challenging macro environment. You can put whatever word you want on it, but it’s a more challenging macro environment. And so, we’re coming out of this period of elevated consumption into a period where people are thinking there may be depressed consumption and the transition between those two is very, very sharp. So that’s creating a buildup of inventory, which means, we have to slow down bid supply and then let the inventory fill the gap until then we all come back out of this. That will take several quarters as we work through ’23. How long it takes? We don’t know exactly yet. Very clearly right now, we’re shipping supply to under what true demand is because our customers are shipping out of their inventory, after they get done with that, we’ll be shipping out of our inventory and then we’ll eventually get back to a normally functioning market.
And so, the long term thesis is intact of the consumption of the product and the growth of NAND. And so on the supply side, we’re dealing with that by — we’re all slowing down the supply of NAND and then you have this wild card given U.S. export controls and U.S. rules about one of the suppliers in the industry is a bit of a wildcard about how much they’ll actually be able to supply in ’23, and I don’t think we know the answer to that yet, but I think we’ll see how that plays out as well. It certainly will impact the supply demand dynamic as well.
Shannon Cross
Great. And maybe if we can move to HDDs, how are you thinking about market share within the HDD business, gain some share, SMR, I think, you’re very excited about looking forward. So I’m just wondering how you expect the market to sort of develop over the next, I don’t know, two years say.
David Goeckeler
Yes. The HDD market is a little different than the NAND market. We’re managing — we’re not managing the gain. We’re not trying to gain share. I mean, that’s not the objective of what we’re doing. We want to drive a margin profile and profitability in the business. That starts with innovation. I think that’s the most important thing. I mean, I think if you can continue to drive innovation, continue to drive down the cost of storage, our customers have an enormous amount of data to store. As we make that a more economically viable proposition, they’ll continue to store more data. That thesis is alive and well in HDD. I think that’s where you start. We have a great lineup of products. We have line of sight all the way to ‘30 and beyond, and then we’ll have another technology transition to HAMR, which will carry us well beyond that.
So the long term thesis is there, the long term growth of the cloud, and now how are we dealing with the same inventory issue that we have, we talked about in the NAND business. We’re more taking down production. We’re taking production out of the system and you’re going to see a significant number of absorption charges. Wissam can talk a little bit about that as structural things we’ve been changing until we get back to the growth. Do you want to say anything how we’re restructuring the business in HDD?
Wissam Jabre
Yes, of course. And so on the — in the summer — in the first quarter, we’ve taken a restructuring action on the client side of the manufacturing capacity in the HDD business. We’ve reduced that by approximately 40% and have taken basically 40% of our capacity out permanently because we don’t see the need for it going forward. And that sort of helps us really in terms of cost reduction or spend, if you like, going forward, approximately by $10 million to $12 million a quarter. Now we won’t necessarily see the impact short term simply because with the — for instance, this quarter, we’ve taken down the manufacture — the production level just to manage the inventory and to match the production with what we’re seeing from a demand perspective. But as the business comes back, we expect the — obviously, under absorption charges to disappear and we expect to see some improvement in terms of the cost structure relative to where we were, for instance, at the end of fiscal ’22.
Shannon Cross
Has there been an opportunity to learn from prior downturns and maybe your underutilization or under absorption charges are less on sort of a like for like basis than, I don’t know, 2008 timeframe or whatever one you wanted to go back to or is this given the fixed cost nature of the business just sort of it is what it is?
David Goeckeler
I think we’re further along. We’re definitely much further along in this transition from client to cloud. I mean, that’s been the big picture story in HDD for 15 years. The industry has been going through this long transition of — there’s an enormous amount of client capacity in the system on a unit basis. That’s been declining for years and years. We’re almost at the end of that. I mean, client HDD, I mean, Wissam just talked about, we’re structurally taking capacity out of the system. And so, I think versus other downturns, we’re just further along and mass capacity being — we’re just closer to that being the whole market. And so, we’re just using this as an opportunity to take more capacity out of the system as opposed to waiting for this transition to happen more naturally of going from client to client.
You could argue the rise of the client, the rise of the cloud has been on the back of the decline of client for over a decade now. And we’re coming to the end of that period. And yeah, I mean, I think that what we’re doing with the footprint on mass capacity is we’re still — we’re first constrained on heads, then we’re constrained on media, and then finally we’re not at all constrained on unit assembly and test capability. So we’re taking that last phase structurally out of the system and then underutilizing to kind of meet demand as opposed to just letting price go down to your last question. Pricing is still been pretty benign in the drive business.
Shannon Cross
Right. And how do you think about in the data center NAND versus of HDDs and how — over time, how do you see that transitioning?
David Goeckeler
They’re both great franchises in the data center. They’re complementary franchise. It’s not like the client or the client is a clear sub institution. Right? Clearly, you’re going to have a device, it’s going to have a hard drive in it, or you’re going to have an SSD in it. In the cloud, you’re going to have both. And the predominant amount of storage is going to be on HDD, a huge percentage on HDD. Obviously, you obviously have a huge percent on — a big amount of NAND and they’re both growing and they’re both growing because we’re continuing to — there’s still a continuous innovation of driving the cost down for each. And as long as we continue to do that, they’ll both continue to grow in the data center and they’ll be a marginal substitution game of NAND for HDD, but very marginal, 1% a year or something like that. So they’re both great markets. They’re both complementary. They’re both going to grow. NAND is going to grow a little bit faster.
Shannon Cross
Got it. And Wissam, maybe you can talk a little bit. Your margins obviously are very reliant on top line performance, but you did flex down your OpEx pretty significantly last quarter. Where are you looking to make the cuts? How are you thinking about priorities, I guess, in a challenging macro when you look at OpEx?
Wissam Jabre
Yes. So I’ve started — I mentioned, for instance, the HDD action with reducing capacity there. On the OpEx side, when you look at our first fiscal quarter, we brought our CapEx — sorry, OpEx, were approximately $70 million. The focus was on nondiscretionary as well as variable expenses, but also in terms of prioritizing, obviously, we’re focused on higher ROI, higher impact projects protecting those, while looking at everything else that we can impact. For this quarter, we’re comfortable that — we guided $650 million to $670 million. I think going forward, we’re comfortable with the $650 million to $700 million range. If you put it in context, in fiscal ’22, we were running around the $750 million — almost $750 million — yes, $750 million to $800 million range. So we’ve brought down the spend approximately by a little bit less than $100 million as we sort of get into the end of fiscal ‘23. And it’s all focused on really looking at that ROI and prioritizing projects making sure that we continue to fund higher impact projects, optimize to drive the roadmap going forward.
From other actions, we’re focused on cash preservation, we’ve reduced our CapEx outlook for the year. We started the year, obviously, targeting around 8$ to 0% of our revenue. From there, we pretty much are aiming now to be at 20% less than what we thought we would be for fiscal ‘23 by taking several actions. One of them is, we’ve talked about pushing out the BiCS6 investments, which will help us not only preserve some of the cash, but also reduce the bits output from the NAND side, while maintaining that cost reduction target of 15% year on year. On the hard drive side, other than the restructuring actions we continue to be very, very focused on selective investments in the capacity enterprise side of the business. But this is an ongoing activity. It’s not sort of a one quarter event. We continue to revisit and refine and drive the numbers down.
And when you look at the business, the NAND business has a very diverse portfolio with a broad set of customers and end markets from consumer to client to cloud. And on the hard drive, obviously, we have great innovation lead there. So these are sort of dynamics that help create some level of resilience in the business as well.
Shannon Cross
And on cash flow, you obviously talked about CapEx, but from a working capital perspective, how are you thinking about your ability to drive cash out of that, pull different levers there. And then from a liquidity perspective, you obviously have your credit facility and then cash on hand. How are you feeling about liquidity?
David Goeckeler
Yes. So on the working capital side, we’re focused on all the elements there. When you look at — the only element that we pretty much are trying to reduce to the extent we can is the inventory built on the NAND side. This depends obviously the factory or the fab generates output and depending on what the demand does there, that’s a little bit less – or a little bit more variable. But receivables and payables as well as on the inventory on the hard drive side, we’re pretty much very focused on making sure that we drive as much as possible from these parameters.
From a liquidity perspective, we exited Q1 with around $4.3 billion of liquidity between the cash on hand, which is around $2.05 billion plus the $2.25 billion of revolver. We have — we’re comfortable with the liquidity based on where we are today. We continue obviously to monitor to make sure that we have access to that liquidity as we go forward.
Shannon Cross
Great. And then, I don’t know, David, maybe if you could talk a little bit about the technology roadmap for HDD and how you see it progressing over the next few years, because there’s near term and then long term both have some pretty interesting…
David Goeckeler
Yes, this is something that I think — the technology roadmap in HDD is something that curates over a very long period of time. I mean, these technologies are in the lab for well over a decade in a lot of cases. I mean, you’re dealing material science and physics and a lot of really, really hard problems. And I think the roadmap that is playing out now that was put in place many, many years ago, I feel very, very strongly about. I think the team saw that, look, when we get to the 20 terabyte range in this idea, you have roughly 2.2 terabits per platter is kind of where the aerial density is going to land. You’re going to run on a real estate in the form factor and you have to have other innovation that’s going to get you past that 2020 — we get 2.2 terabytes for platter, 10 platters as 22 terabytes, it’s pretty simple math. And it’s like, now we need to go further, right? We can’t stop at 22 is what I said earlier. We’ve got to bring an innovation roadmap to our customers. They want to store more data. There’s more data being created every day. We have to continue this road map, so how are we going to do that?
And I think this is where many years ago we said that the teams were thinking through what are the set of future technologies that are going to get us past this point where we actually find ourselves at right now. And so, over the last two years, you’ve been seeing us layer in these technologies into our roadmap. First EPMR, right? Energy assist that gives us greater aerial density, that got us to the 2.2 per platter. Then you have things like [indiscernible] which is a new control plane architecture that gets us better reliability and also make things like SMR single magnetic recording more efficient. So these technologies are now layering on top of each other to give ourselves a roadmap from 2022 to ’22 and now to ‘26. And they will carry us — we have we have a technology roadmap that’s going to carry us past ’30 with kind of layering in these technologies. And you’re seeing the customers respond to this. A year ago or a year and a half ago, SMR really wasn’t a conversation in the hyperscale data center. That wasn’t really the technology that was the predominant technology. Now it is a year later, like everybody understood if I’m going to move past this 22 where we’re at on CMR I’m going to have to make some host side changes on my side and you’re seeing the biggest data center operator in the world make those investments because they know they’re going to get the payback from it. The technology is there to carry us forward to our ’26 product.
So we’ve got a good roadmap in place that is going to take us to ‘30 and beyond and then HAMR is going to come in. I mean HAMR is going to be a technology that’s going to be there. It’s been in the lab for 10 or 15 years, cooking and curating, and so you can — it’s not a question of any technology, it’s not a question of will it work. It’s a question of does it work at scale, does it work at the reliability, can you deploy this in a data center that runs at 140 degrees, 24 hours a day and you pound away on that device for five years and you’re still going to get a huge reliability number. Those are all the real hard problems to solve. And as we’ve got a long line of innovations that build on top of each other like, again, EPMR, Ultra SMR, eventually HAMR that will carry the HDD roadmap far into the future and provide a very strong value proposition to be the foundational storage for the cloud. I think the long term thesis of that market is very much intact. Like I said, the rise of the cloud really in the past 15 years has been on this decline of client. We are coming to the end of that period. We’re in a period right now where there is huge inventory correction, so it’s harder to see. But when you scrape that all away, we have this long roadmap of innovation that’s going to support the growth of the cloud and is going to create a very robust business model for everybody in the HDD business bring a great value proposition to our customers, can store more data at a lower TCO and for us a better business to support this as we work through this client transition.
Shannon Cross
Great. And then as we come to a close here in our time, I just have to ask about the strategic review. Any updates, any thoughts from what you most recently gave us on the earnings call.
David Goeckeler
Yes. What I’ll just say, it’s still ongoing, it’s very active. I know some people have asked us, maybe some people expected something to happen at our annual meeting, which — things didn’t happen in our annual meeting. I think that agreement we have with Elliott contemplated that that we could get to that point and we wouldn’t be done. We didn’t set an artificial time line to finish this, there are multiple parties engaged in the process. It’s all under NDA. I can’t talk about [Technical Difficulty] the specific server, we continue to aggressively pursue it and make sure that if we — we’re evaluating a wide range of options and then all the implications of those options, there’s tax implications, there’s capital capture implications or strategic implications, there’s synergies and dissynergies. We’re working through all that. We feel good about where it’s at and when we have something more to say, we will say it, but the process is very healthy and active and we’re working through all the details.
Shannon Cross
How are you — I’m just curious from a structural standpoint, I kind of went through this when HP and [Technical Difficulty] were not getting along very well. And how have you been able to sort of separate the strategic review from your day to day job and focus and operations?
David Goeckeler
Well, we have a great team first of all. We’ve built a world class executive team over the last two years and we’ve structured the organization in a way that it can — it has agility and resilience and we can do more than one thing at a time. And that’s really paid off quite frankly. We got a really, really deep bench of very sophisticated leaders that can drive the business. I spend a lot of my time on the strategic review. And it’s obviously a very complicated environment to work through, but we’re able to work through. And we’ve got great advisors and great help with it as well and some very sophisticated investors involved in the process. So it’s something that we’re very serious about creating what is the right short term, mid-term, long term, what is the best shareholder value creation opportunity we can drive with any structural change we make.
Shannon Cross
Great. Well, thank you so much for your time. We appreciate it. Thank you everyone for joining us. And we’ll continue to watch your journey.
David Goeckeler
Thank you. We appreciate the time. Thanks, everyone.
Wissam Jabre
Thanks, Shannon. Thanks, everyone.
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