Everpure, Inc. (P) FY 2023 MD&A
This page reproduces the company's own Item 7 MD&A text from the linked SEC filing. It is filer text, not grepcent analysis, scoring, or investment advice.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
Investors should read the following discussion and analysis of our financial condition and results of operations together with the section titled “Selected Consolidated Financial Data” and the consolidated financial statements and related notes included elsewhere in this Annual Report on Form 10-K. This discussion contains forward-looking statements based upon current expectations that involve risks and uncertainties. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of various factors, including those discussed in the section titled” Risk Factors” and in other parts of this Annual Report on Form 10-K. See also the section titled “Note Regarding Forward-Looking Statements” in this report. Our fiscal year end is the first Sunday after January 30.
Overview
Data is foundational to our customers’ business transformation, and we are focused on delivering innovative and disruptive data storage, products and services that enable customers to maximize the value of their data.
We are a global leader in data storage and management with a mission to redefine the storage experience by simplifying how people consume and interact with data. Our vision integrates our foundation of simplicity and reliability with three major market trends that are impacting all organizations large and small: (1) adoption of the cloud operating model everywhere; (2) the increase of modern cloud-native applications; and (3) the shift to modernizing today’s data infrastructure with all-flash.
Our products and subscription services support a wide range of structured and unstructured data, at scale and across any data workloads in hybrid and public cloud environments, and include mission-critical production, test and development, analytics, disaster recovery, and backup and recovery.
Recent Developments
•In May 2022, we released Pure Fusion for general availability which enables enterprises and managed service providers (MSPs) to implement a cloud operating model by automating and orchestrating their data storage environment and offer storage services to customers and developers through application programming interfaces (APIs), dramatically accelerating developer workflow.
•In June 2022, we introduced a number of new portfolio and service offerings at our annual user conference, Pure//Accelerate® techfest22:
•The new FlashBlade//S family of products, built with a new modular architecture that shares components with Pure's industry leading FlashArray. The highly flexible, all-QLC system combines performance and cost effectiveness to address the demands of unstructured data and modern application growth.
•Expansion of the Evergreen family: To advance our leadership in delivering Storage-as-a-Service (STaaS) while supporting customers wherever they are in their journey to embracing flexible delivery models, we expanded our portfolio of Evergreen offerings with the introduction of Evergreen//Flex. Our portfolio of Evergreen offerings include:
▪Evergreen//Forever: Formerly known as Evergreen Gold
▪Evergreen//Flex, a fleet-level Evergreen subscription, which gives customers a utilization-based consumption model and flexibility to deploy and shift capacity across their fleet over time
▪Evergreen//One: Formerly known as Pure as-a-Service
•In March 2023, we announced FlashBlade//E, a scale-out unstructured data repository built to handle exponential data growth with industry-leading energy efficiency. FlashBlade//E is anticipated to be generally available by the end of April 2023 and will be priced at under $0.20 per gigabyte.
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Uncertain Macro Environment
We continue to actively monitor, evaluate and respond to the current uncertain macro environment. We have experienced longer sales cycle and progression for opportunities, most notably with our U.S. enterprise customers.
The macro environment remains unpredictable and our past results may not be indicative of future performance. See "Risk Factors" in Part I, Item 1A for additional details.
Components of Results of Operations
Revenue
We derive revenue primarily from the sale of our storage infrastructure products, FlashArray and FlashBlade, and subscription services which include our portfolio of Evergreen offerings and Portworx. Subscription services also include our professional services offerings such as installation and implementation consulting services.
Provided that all other revenue recognition criteria have been met, we typically recognize product revenue upon transfer of control to our customers and the satisfaction of our performance obligations. For Evergreen//Flex, product revenue is recognized upon the commencement of the underlying subscription services. Products are typically shipped directly by us to customers, and our channel partners generally do not stock our inventory. We expect our product revenue may vary from period to period based on, among other things, the timing and size of orders and delivery of products and the impact of significant transactions.
We generally recognize revenue from subscription services ratably over the contractual service period and professional services as delivered. We expect our subscription services revenue to increase and continue to grow faster than our product revenue as more customers choose to consume our storage solutions as a service and our existing subscription customers renew and expand their consumption and service levels.
Cost of Revenue
Cost of product revenue primarily consists of costs paid to our third-party contract manufacturers, which includes the costs of our raw material components, and personnel costs associated with our supply chain operations. Personnel costs consist of salaries, bonuses and stock-based compensation expense. Our cost of product revenue also includes allocated overhead costs, inventory write-offs and product warranty costs, amortization of intangible assets pertaining to developed technology and capitalized internal-use software, and freight. Allocated overhead costs consist of certain employee benefits and facilities-related costs. We expect our cost of product revenue to increase in absolute dollars as our product revenue increases.
Cost of subscription services revenue primarily consists of personnel costs associated with delivering our subscription and professional services, part replacements, allocated overhead costs and depreciation of infrastructure used to deliver our subscription services. We expect our cost of subscription services revenue to increase in absolute dollars, as our subscription services revenue increases.
Operating Expenses
Operating expenses consist of research and development, sales and marketing and general and administrative expenses. Salaries and personnel-related costs, including stock-based compensation expense, are the most significant component of each category of operating expenses. Operating expenses also include allocated overhead costs for employee benefits and facilities-related costs.
Research and Development. Research and development expenses consist primarily of employee compensation and related expenses, prototype expenses, depreciation associated with assets acquired for research and development, data center and cloud services costs, third-party engineering and contractor support costs, as well as allocated overhead. We expect our research and development expenses to increase in absolute dollars and it may decrease as a percentage of revenue.
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Sales and Marketing. Sales and marketing expenses consist primarily of employee compensation and related expenses, sales commissions, marketing programs, travel and entertainment expenses as well as allocated overhead. Marketing programs consist of advertising, events, corporate communications and brand-building activities. We expect our sales and marketing expenses to increase in absolute dollars and it may decrease as a percentage of revenue as we continue to realize efficiencies from scaling our business.
General and Administrative. General and administrative expenses consist primarily of employee compensation and related expenses for administrative functions including finance, legal, human resources, facilities, IT and fees for third-party professional services as well as amortization of intangible assets pertaining to defensive technology patents and allocated overhead. We expect our general and administrative expenses to increase in absolute dollars and it may decrease as a percentage of revenue as we continue to drive operational excellence.
Other Income (Expense), Net
Other income (expense), net consists primarily of interest income related to cash, cash equivalents and marketable securities, interest expense related to our debt and gains (losses) from foreign currency transactions
Provision for Income Taxes
Provision for income taxes consists primarily of income taxes in certain foreign jurisdictions in which we conduct business and state income taxes in the United States. Our foreign subsidiaries earn a profit margin based upon transfer pricing principles which require an arm’s length return. Our foreign subsidiaries' sales and marketing expenses are expected to increase over time as we grow, resulting in higher pre-tax foreign earnings and higher foreign income taxes.
We have recorded no U.S. federal current income tax and provided a full valuation allowance for U.S. deferred tax assets, which includes net operating loss carryforwards and tax credits related primarily to research and development. We expect to maintain this full valuation allowance for the foreseeable future as it is more likely than not that the assets will not be realized based on our history of losses.
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Results of Operations
Basis of Presentation
We operate using a 52/53 week fiscal year ending on the first Sunday after January 30. Fiscal 2021 and 2023 were both 52-week years that ended on January 31, 2021 and February 5, 2023, respectively. Fiscal 2022 was a 53-week year that ended on February 6, 2022. Unless otherwise stated, all dates refer to our fiscal years.
Year Over Year Comparisons
The following tables set forth our results of operations for the periods presented in dollars and as a percentage of total revenue (in thousands):
Revenue
| Fiscal Year Ended | Change | Fiscal Year Ended | Change | |||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2021 | 2022 | $ | % | 2022 | 2023 | $ | % | |||||||||||||||||||||||
| (in thousands) | ||||||||||||||||||||||||||||||
| Product revenue | $ | 1,144,098 | $ | 1,442,338 | $ | 298,240 | 26 | % | $ | 1,442,338 | $ | 1,792,153 | $ | 349,815 | 24 | % | ||||||||||||||
| Subscription services revenue | 540,081 | 738,510 | 198,429 | 37 | % | 738,510 | 961,281 | 222,771 | 30 | % | ||||||||||||||||||||
| Total revenue | $ | 1,684,179 | $ | 2,180,848 | $ | 496,669 | 29 | % | $ | 2,180,848 | $ | 2,753,434 | $ | 572,586 | 26 | % |
Total revenue increased in fiscal 2023 by $572.6 million, or 26%, compared to fiscal 2022, driven by demand from enterprise, commercial and public sector customers across our entire product and solutions portfolio and key geographies. The increase in product revenue during fiscal 2023 compared to fiscal 2022 was driven by increased sales from our entire portfolio of FlashArray and FlashBlade products, including FlashArray//C, FlashArray//XL and FlashBlade//S. The increase in subscription services revenue was largely driven by increases in sales of our Evergreen subscription services, including Evergreen//One, as well as recognition of revenue from previously contracted Evergreen subscription services.
Total revenue increased in fiscal 2022 by $496.7 million, or 29%, compared to fiscal 2021, driven by sales to new and existing enterprise, commercial and public sector customers, with particular strength in the United States, across our entire product and solutions portfolio and key geographies. The increase in product revenue during fiscal 2022 compared to fiscal 2021 was driven by increased sales from our entire portfolio of FlashArray and FlashBlade solutions, including sales of FlashArray//C to a large hyperscaler customer, and repeat sales to existing customers. The increase in subscription services revenue was largely driven by increases in sales of our Evergreen subscription services, including Evergreen//One, as well as increased Portworx revenue.
During fiscal 2023 compared to fiscal 2022, total revenue in the United States grew by 25% from $1.6 billion to $2.0 billion and total rest of the world revenue grew by 30% from $600.8 million to $781.7 million. During fiscal 2022 compared to fiscal 2021, total revenue in the United States grew by 32% from $1.2 billion to $1.6 billion and total rest of the world revenue grew by 23% from $488.8 million to $600.8 million.
Subscription Annual Recurring Revenue (ARR)
We use Subscription ARR as a key business metric to evaluate the performance of our subscription services. Subscription ARR should be viewed independently of revenue, deferred revenue and remaining performance obligations and is not intended as a substitute for any of these items.
Subscription ARR is calculated as the total annualized contract value of all active customer subscription agreements at the end of a fiscal quarter, plus on-demand revenue for the quarter multiplied by four. Contract values are established prior to any adjustments made in accordance with ASC 606.
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The following table sets forth our Subscription ARR for the periods presented (dollars in thousands):
| At the End of | Year-over-Year Growth | |||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| Fiscal 2022 | Fiscal 2023 | % | ||||||||
| Subscription annual recurring revenue | $ | 848,776 | $ | 1,101,301 | 30 | % |
Deferred Revenue
Deferred revenue primarily consists of amounts that have been invoiced but have not yet been recognized as revenue including performance obligations pertaining to subscription services. The current portion of deferred revenue represents the amounts that are expected to be recognized as revenue within one year of the consolidated balance sheet dates.
Changes in total deferred revenue during the periods presented are as follows (in thousands):
| Fiscal Year Ended | ||||||
|---|---|---|---|---|---|---|
| 2022 | 2023 | |||||
| Beginning balance | $ | 843,697 | $ | 1,079,872 | ||
| Additions | 937,510 | 1,248,417 | ||||
| Recognition of deferred revenue | (701,335) | (942,639) | ||||
| Ending balance | $ | 1,079,872 | $ | 1,385,650 |
Revenue recognized during fiscal 2022 and 2023 from deferred revenue at the beginning of each respective period was $442.7 million and $567.8 million.
Remaining Performance Obligations
Total remaining performance obligations (RPO) which is total contracted but not recognized revenue was $1.8 billion at the end of fiscal 2023. RPO consists of both deferred revenue and non-cancelable amounts that are expected to be invoiced and recognized as revenue in future periods. Product orders are generally cancelable until delivery has occurred, and as such unfulfilled product orders are excluded from RPO. Cancelable orders will fluctuate depending on numerous factors. Of the $1.8 billion RPO at the end of fiscal 2023, we expect to recognize approximately 47% over the next 12 months, and the remainder thereafter. RPO is expected to increase as our subscription services business grows over time.
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Cost of Revenue and Gross Margin
| Fiscal Year Ended | Change | Fiscal Year Ended | Change | |||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2021 | 2022 | $ | % | 2022 | 2023 | $ | % | |||||||||||||||||||||||
| (in thousands) | ||||||||||||||||||||||||||||||
| Product cost of revenue | $ | 348,986 | $ | 471,565 | $ | 122,579 | 35 | % | $ | 471,565 | $ | 559,548 | $ | 87,983 | 19 | % | ||||||||||||||
| Product stock-based compensation | 4,001 | 6,334 | 2,333 | 58 | % | 6,334 | 10,245 | 3,911 | 62 | % | ||||||||||||||||||||
| Total expenses | $ | 352,987 | $ | 477,899 | $ | 124,912 | 35 | % | $ | 477,899 | $ | 569,793 | $ | 91,894 | 19 | % | ||||||||||||||
| % of Product revenue | 31 | % | 33 | % | 33 | % | 32 | % | ||||||||||||||||||||||
| Subscription services cost of revenue | $ | 167,289 | $ | 209,190 | $ | 41,901 | 25 | % | $ | 209,190 | $ | 263,365 | $ | 54,175 | 26 | % | ||||||||||||||
| Subscription services stock-based compensation | 14,979 | 21,240 | 6,261 | 42 | % | 21,240 | 22,630 | 1,390 | 7 | % | ||||||||||||||||||||
| Total expenses | $ | 182,268 | $ | 230,430 | $ | 48,162 | 26 | % | $ | 230,430 | $ | 285,995 | $ | 55,565 | 24 | % | ||||||||||||||
| % of Subscription services revenue | 34 | % | 31 | % | 31 | % | 30 | % | ||||||||||||||||||||||
| Total cost of revenue | $ | 535,255 | $ | 708,329 | $ | 173,074 | 32 | % | $ | 708,329 | $ | 855,788 | $ | 147,459 | 21 | % | ||||||||||||||
| % of Revenue | 32 | % | 32 | % | 32 | % | 31 | % | ||||||||||||||||||||||
| Product gross margin | 69 | % | 67 | % | 67 | % | 68 | % | ||||||||||||||||||||||
| Subscription services gross margin | 66 | % | 69 | % | 69 | % | 70 | % | ||||||||||||||||||||||
| Total gross margin | 68 | % | 68 | % | 68 | % | 69 | % |
Cost of revenue increased by $147.5 million, or 21%, for fiscal 2023 compared to fiscal 2022. The increase in product cost of revenue was primarily attributable to increased sales and, to a lesser extent, higher component and logistics costs due to supply chain environment. The increase in subscription services cost of revenue was primarily attributable to supporting our growing Evergreen subscription installed base, including Evergreen//One, and Portworx.
The slight increase in product gross margin for fiscal 2023 compared to fiscal 2022 was largely as a result of sales of FlashArray//C to a large hyperscaler in fiscal 2022 that were at lower product gross margins. Sales of FlashArray//S as well as strength in FlashArray//X pricing also contributed to higher product gross margins during fiscal 2023, partially offset by higher component costs due to supply chain constraints and warranty reserves. The slight increase in subscription services gross margin for fiscal 2023 compared to fiscal 2022 was driven by increased sales of Evergreen//One, higher renewals in Evergreen subscriptions, and increasing economies of scale.
Cost of revenue increased by $173.1 million, or 32%, for fiscal 2022 compared to fiscal 2021. The increase in product cost of revenue was primarily attributable to increased sales. Other factors include higher component and logistics costs due to supply chain environment, and an increase in the amortization of acquired intangible assets. The increase in subscription services cost of revenue was primarily attributable to supporting our growing Evergreen subscription installed base, including Evergreen//One, and Portworx.
The decline in product gross margin for fiscal 2022 compared to fiscal 2021 was impacted by the sale of FlashArray//C to a large hyperscaler, and to a lesser extent higher component and logistics costs due to supply chain environment, as well as increased sales of FlashArray//C and FlashBlade products which generally have a modestly lower gross margin compared to our other FlashArray products. The increase in subscription services gross margin for fiscal 2022 compared to fiscal 2021 was driven by increased sales of Evergreen//One and higher renewals in Evergreen subscriptions, and increasing economies of scale.
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Operating Expenses
Research and Development
| Fiscal Year Ended | Change | Fiscal Year Ended | Change | ||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2021 | 2022 | $ | % | 2022 | 2023 | $ | % | ||||||||||||||||||||||
| (in thousands) | |||||||||||||||||||||||||||||
| Research and development | $ | 363,247 | $ | 439,671 | $ | 76,424 | 21 | % | $ | 439,671 | $ | 530,834 | $ | 91,163 | 21 | % | |||||||||||||
| Stock-based compensation | 117,220 | 142,264 | 25,044 | 21 | % | 142,264 | 161,694 | 19,430 | 14 | % | |||||||||||||||||||
| Total expenses | $ | 480,467 | $ | 581,935 | $ | 101,468 | 21 | % | $ | 581,935 | $ | 692,528 | $ | 110,593 | 19 | % | |||||||||||||
| % of Total revenue | 29 | % | 27 | % | 27 | % | 25 | % |
Research and development expense increased by $110.6 million, or 19%, during fiscal 2023 compared to fiscal 2022, as we continue to innovate and develop technologies to enhance and expand our solutions portfolio. The increase was primarily driven by a $79.6 million increase in employee compensation and related costs, which included a $19.4 million increase in stock-based compensation expense. The remainder of the increase was primarily attributable to a $20.6 million increase in office and facilities-related costs and an $8.7 million increase in data center and cloud services costs. Research and development expense as a percentage of total revenue decreased in fiscal 2023 compared to fiscal 2022 primarily due to our global expansion of research and development centers.
Research and development expense increased by $101.5 million, or 21%, during fiscal 2022 compared to fiscal 2021, primarily driven by a $71.0 million increase in employee compensation and related costs, which included a $25.0 million increase in stock-based compensation expense. The remainder of the increase was primarily attributable to a $14.2 million increase in data center and cloud services costs and a $9.3 million increase in depreciation expense from property and equipment due, in part, to revising our estimated useful lives of test equipment and certain computer equipment and software during the first quarter of fiscal 2021.
Sales and Marketing
| Fiscal Year Ended | Change | Fiscal Year Ended | Change | ||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2021 | 2022 | $ | % | 2022 | 2023 | $ | % | ||||||||||||||||||||||
| (in thousands) | |||||||||||||||||||||||||||||
| Sales and marketing | $ | 650,766 | $ | 727,562 | $ | 76,796 | 12 | % | $ | 727,562 | $ | 811,102 | $ | 83,540 | 11 | % | |||||||||||||
| Stock-based compensation | 65,248 | 71,439 | 6,191 | 9 | % | 71,439 | 72,507 | 1,068 | 1 | % | |||||||||||||||||||
| Total expenses | $ | 716,014 | $ | 799,001 | $ | 82,987 | 12 | % | $ | 799,001 | $ | 883,609 | $ | 84,608 | 11 | % | |||||||||||||
| % of Total revenue | 43 | % | 37 | % | 37 | % | 32 | % |
Sales and marketing expense increased by $84.6 million, or 11%, during fiscal 2023 compared to fiscal 2022, primarily due to an increase of $51.0 million in employee compensation and related costs and a $34.0 million increase in marketing and travel spend. Sales and marketing expense as a percentage of total revenue decreased in fiscal 2023 compared to fiscal 2022 primarily due to revenue growth and, to a lesser extent, lower sales commissions.
Sales and marketing expense increased by $83.0 million, or 12%, during fiscal 2022 compared to fiscal 2021, primarily due to an increase of $62.7 million in employee compensation and related costs, which included a $24.7 million increase in sales commission expense, and a $14.3 million increase in marketing and travel spend due to the gradual reduction in COVID-19 restrictions.
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General and Administrative
| Fiscal Year Ended | Change | Fiscal Year Ended | Change | ||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2021 | 2022 | $ | % | 2022 | 2023 | $ | % | ||||||||||||||||||||||
| (in thousands) | |||||||||||||||||||||||||||||
| General and administrative | $ | 141,581 | $ | 144,295 | $ | 2,714 | 2 | % | $ | 144,295 | $ | 177,455 | $ | 33,160 | 23 | % | |||||||||||||
| Stock-based compensation | 40,896 | 45,686 | 4,790 | 12 | % | 45,686 | 60,541 | 14,855 | 33 | % | |||||||||||||||||||
| Total expenses | $ | 182,477 | $ | 189,981 | $ | 7,504 | 4 | % | $ | 189,981 | $ | 237,996 | $ | 48,015 | 25 | % | |||||||||||||
| % of Total revenue | 11 | % | 9 | % | 9 | % | 9 | % |
General and administrative expense increased by $48.0 million, or 25%, during fiscal 2023 compared to fiscal 2022 primarily due to employee compensation and related costs driven by increased headcount as we continue to scale and support the growth of our business.
General and administrative expense increased by $7.5 million, or 4%, during fiscal 2022 compared to fiscal 2021. The increase was primarily driven by an increase of $16.4 million in employee compensation and related costs driven by increased headcount, partially offset by a $8.5 million decrease in office and facilities-related costs primarily attributable to the exit of certain facilities in fiscal 2021.
Restructuring and Other
During fiscal 2021, we recognized $31.0 million of restructuring and other costs related to one-time involuntary termination benefit costs associated with workforce realignment plans, the cease use of certain lease facilities, and incremental costs directly related to the COVID-19 pandemic.
Other Income (Expense), Net
| Fiscal Year Ended | Change | Fiscal Year Ended | Change | |||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2021 | 2022 | $ | 2022 | 2023 | $ | |||||||||||||||||||
| (in thousands) | ||||||||||||||||||||||||
| Other income (expense), net | $ | (9,127) | $ | (30,098) | $ | (20,971) | $ | (30,098) | $ | 8,295 | $ | 38,393 | ||||||||||||
| % of Total revenue | (1) | % | (1) | % | (1) | % | — | % |
Other income (expense), net increased during fiscal 2023 compared to fiscal 2022 primarily due to decrease in interest expense following the repayment of the outstanding balance on the revolving credit facility and the adoption of ASU 2020-06 in the first quarter of fiscal 2023. The adoption of ASU 2020-06 resulted in the elimination of the debt discount related to the conversion option of our convertible senior notes that was previously accreted to interest expense over its term. These decreases were partially offset by an increase in interest income on cash equivalents and marketable securities resulting from a rising interest rate environment.
We expect interest income to decline in fiscal 2024 year-over-year as a result of cash that will be used to repay our convertible senior notes in April 2023.
Other income (expense), net decreased during fiscal 2022 compared to fiscal 2021 primarily attributable to an increase in net foreign exchange losses as the U.S. dollar strengthened relative to certain foreign currencies, a decrease in interest income on marketable securities resulting from a lower interest rate environment, and higher interest expense due to borrowings under the revolving credit facility.
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Provision for Income Taxes
| Fiscal Year Ended | Change | Fiscal Year Ended | Change | ||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2021 | 2022 | $ | % | 2022 | 2023 | $ | % | ||||||||||||||||||||||
| (in thousands) | |||||||||||||||||||||||||||||
| Provision for income taxes | $ | 11,916 | $ | 14,763 | $ | 2,847 | 24 | % | $ | 14,763 | $ | 18,737 | $ | 3,974 | 27 | % | |||||||||||||
| % of Total revenue | 1 | % | 1 | % | 1 | % | 1 | % |
Provision for income taxes increased during fiscal 2023 compared to fiscal 2022 primarily due to an increase in U.S. state income taxes arising as a result of research and development capitalization under IRC Section 174.
Provision for income taxes increased during fiscal 2022 compared to fiscal 2021 primarily attributable to an increase in foreign income taxes.
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Liquidity and Capital Resources
At the end of fiscal 2023, we had cash, cash equivalents and marketable securities of $1.6 billion. Our cash and cash equivalents primarily consist of bank deposits and money market accounts. Our marketable securities generally consist of highly rated debt instruments of the U.S. government and its agencies, debt instruments of highly rated corporations, debt instruments issued by foreign governments, asset-backed securities, and municipal bonds.
We believe our existing cash, cash equivalents, marketable securities and the revolving credit facility will be sufficient to fund our operating and capital needs for at least the next 12 months, including the cash settlement of the principal balance of our convertible senior notes in April 2023 as discussed below. The following table sets forth our non-cancelable contractual obligations and commitments associated with agreements that are enforceable and legally binding at the end of fiscal 2023. Obligations under contracts that we can cancel without a significant penalty are not included.
| Payment Due by Period | |||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Total | Less Than 1 Year | 1-3 Years | 3-5 Years | More Than 5 Years | |||||||||||||||
| (in thousands) | |||||||||||||||||||
| Debt obligations (1) | $ | 580,091 | $ | 577,363 | $ | 2,728 | $ | — | $ | — | |||||||||
| Future lease commitments (2) | 238,297 | 51,059 | 93,570 | 44,991 | 48,677 | ||||||||||||||
| Purchase obligations (3) | 445,048 | 317,846 | 98,100 | 29,102 | — | ||||||||||||||
| Total | $ | 1,263,436 | $ | 946,268 | $ | 194,398 | $ | 74,093 | $ | 48,677 |
_________________________________
(1) Consists of (i) principal and interest payments on our convertible senior notes due April 2023, (ii) unused commitment fees on our August 2020 revolving credit facility based on rates in effect on February 5, 2023, and (iii) principal and interest on a five year loan.
(2) Represents aggregate future minimum lease payments under non-cancelable operating and finance leases.
(3) Includes primarily non-cancelable inventory purchase commitments, software service contracts, and hosting arrangements. Purchase orders are not included as they represent authorizations to purchase rather than binding agreements.
Our future capital requirements will depend on many factors including our sales growth, the timing and extent of capital spending to support development efforts, growth of our Evergreen//One offering, the addition or closure of office space, construction of our new headquarters facility, the timing of new product introductions, and our share repurchases. We may continue to enter into arrangements to acquire or invest in complementary businesses, services and technologies, including intellectual property rights. We may seek additional equity or debt financing in the future.
Convertible Senior Notes
In April 2018, we issued $575.0 million of 0.125% convertible senior notes due 2023 (the Notes), in a private placement and received proceeds of $562.1 million, after deducting the underwriters' discounts and commissions. The Notes are unsecured obligations that do not contain any financial covenants or restrictions on the payments of dividends, the incurrence of indebtedness, or the issuance or repurchase of securities by us or any of our subsidiaries. The Notes will mature on April 15, 2023. The Notes are convertible for up to 21,884,155 shares of our common stock at an initial conversion rate of approximately 38.0594 shares of common stock per $1,000 principal amount, which is equal to an initial conversion price of approximately $26.27 per share of common stock, subject to adjustment. On October 14, 2022, we provided notice to the holders of the Notes electing to settle all conversions of the Notes with cash up to the principal amount of the Notes and shares for any excess conversion value. Accordingly, we currently intend to settle the principal amount of the Notes, or $575.0 million, with cash from a combination of sources, including our existing cash, cash equivalents, marketable securities and the revolving credit facility.
In connection with the offering of the Notes, we entered into capped call transactions with certain financial institutions that provide us with the option to purchase up to a total of 21,884,155 shares of our common stock to offset the dilution and/or any cash payments we are required to make in excess of the principal amount of the Notes upon conversion of the Notes at maturity with such offset subject to a cap of $39.66 per share. See further discussion about our Notes in Note 7 in Part II, Item 8 of this report.
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Revolving Credit Facility
In August 2020, we entered into a Credit Agreement with a consortium of financial institutions and lenders that provides for a five-year, senior secured revolving credit facility of $300.0 million (Credit Facility). Proceeds from the Credit Facility may be used for general corporate purposes and working capital. The Credit Facility expires, absent default or early termination by us, on the earlier of (i) August 24, 2025 or (ii) 91 days prior to the stated maturity of the convertible senior notes unless, on such date and each subsequent day until the convertible senior notes are paid in full, the sum of our cash, cash equivalents and marketable securities and the aggregate unused commitments then available to us exceed $625.0 million. The annual interest rates applicable to loans under the Credit Facility are, at our option, equal to either a base rate plus a margin ranging from 0.50% to 1.25% or LIBOR (based on one, three, or six-month interest periods), subject to a floor of 0%, plus a margin ranging from 1.50% to 2.25%. Interest on revolving loans is payable quarterly in arrears with respect to loans based on the base rate and at the end of an interest period in the case of loans based on LIBOR (or at each three-month interval, if the interest period is longer than three months). We are also required to pay a commitment fee on the unused portion of the commitments ranging from 0.25% to 0.40% per annum, payable quarterly in arrears that commenced on September 30, 2020. During March 2021, the ICE Benchmark Administration, the administrator of LIBOR, announced that it will cease publication of LIBOR by June 2023. In March 2023, we amended the Credit Facility to transition LIBOR to the Secured Overnight Financing Rate (SOFR) effective April 1, 2023. The annual interest rate for SOFR borrowings will be equal to term SOFR (based on one, three, or six-month interest periods), subject to a floor of 0%, plus a margin ranging from 1.50% to 2.25%. We do not anticipate that this transition to SOFR will materially impact our liquidity or financial position.
In February 2022, we repaid, in full, the $250.0 million then outstanding under the Credit Facility. Loans under the Credit Facility are collateralized by substantially all of our assets and subject to certain restrictions and two financial ratios measured as of the last day of each fiscal quarter: a Consolidated Leverage Ratio not to exceed 4.5:1 and an Interest Coverage Ratio not to be less than 3:1. We were in compliance with all covenants under the Credit Facility at the end of fiscal 2023.
Letters of Credit
At the end of fiscal 2022 and 2023, we had outstanding letters of credit in the aggregate amount of $6.7 million and $8.0 million in connection with our facility leases. The letters of credit are collateralized by either restricted cash or the Credit Facility and mature on various dates through September 2030.
Share Repurchase Program
In August 2019, our Board of Directors approved a stock repurchase program to repurchase up to $150.0 million of our common stock and in February 2021, an additional $200.0 million of our common stock, both of which were completed by the end of fiscal 2022. In March 2022, our Board of Directors authorized the repurchase of up to an additional $250.0 million of our common stock, of which $31.1 million remaining as of the end of fiscal 2023. In March 2023, our Board of Directors authorized the repurchase of up to an additional $250.0 million of our common stock. The authorization allows us to repurchase shares of our common stock opportunistically and will be funded from available working capital. Repurchases may be made at management’s discretion from time to time on the open market through privately negotiated transactions, transactions structured through investment banking institutions, block purchase techniques, 10b5-1 trading plans, or a combination of the foregoing. The share repurchase program does not obligate us to acquire any of our common stock, has no end date, and may be suspended or discontinued by us at any time without prior notice.
During fiscal 2021, we repurchased and retired 9.5 million shares of common stock at an average purchase price of $14.17 per share for an aggregate repurchase price of $135.0 million. During fiscal 2022, we repurchased and retired 8.5 million shares of common stock at an average purchase price of $23.56 per share for an aggregate repurchase price of $200.0 million. During fiscal 2023, we repurchased and retired 7.8 million shares of common stock at an average purchase price of $27.95 per share for an aggregate repurchase price of $218.9 million. Since the end of fiscal 2023, we have repurchased $31.1 million of additional shares.
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The following table summarizes our cash flows for the periods presented (in thousands):
| Fiscal Year Ended | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| 2021 | 2022 | 2023 | ||||||||
| Net cash provided by operating activities | $ | 187,641 | $ | 410,127 | $ | 767,234 | ||||
| Net cash used in investing activities | (418,109) | (153,283) | (221,413) | |||||||
| Net cash provided by (used in) financing activities | 200,237 | (127,792) | (431,166) |
Operating Activities
Net cash provided by operating activities substantially increased year-over-year during both fiscal 2022 and 2023. Key factors driving the increase included cash collections from sales of our product and subscription services and improved operating leverage, partially offset by payments to our contract manufacturers, employee compensation, and general corporate operating expenditures.
Net cash provided by operating activities during fiscal 2021 was primarily driven by cash collections from sales of our product and subscription services including certain invoices with extended payment terms and deferral of the employer portion of social security payroll tax under the CARES Act, partially offset by payments to our contract manufacturers, employee compensation, and general corporate operating expenditures.
Investing Activities
Net cash used in investing activities during fiscal 2023 of $221.4 million was driven by capital expenditures of $158.1 million, and net purchases of marketable securities of $61.3 million.
Net cash used in investing activities during fiscal 2022 of $153.3 million was driven by capital expenditures of $102.3 million, and net purchases of marketable securities of $50.4 million.
Net cash used in investing activities during fiscal 2021 of $418.1 million was driven by net cash paid for our acquisition of Portworx of $339.6 million in October 2020, and capital expenditures of $95.0 million, partially offset by net sales of marketable securities of $21.5 million.
Financing Activities
Net cash used in financing activities of $431.2 million during fiscal 2023 was primarily driven by our repayment of the $250.0 million outstanding under the Credit Facility, share repurchases of $219.1 million, and $19.6 million in tax withholdings on vesting of equity awards, partially offset by $40.0 million of proceeds from issuance of common stock under our employee stock purchase plan (ESPP), and $24.8 million of proceeds from the exercise of stock options.
Net cash used in financing activities of $127.8 million during fiscal 2022 was primarily driven by share repurchases of $200.2 million, and $10.8 million in tax withholdings on vesting of equity awards, partially offset by $48.7 million of proceeds from the exercise of stock options, and $36.6 million of proceeds from issuance of common stock under our ESPP.
Net cash provided by financing activities of $200.2 million during fiscal 2021 was primarily driven by $251.9 million of net proceeds from borrowings primarily under our Credit Facility, $59.3 million of proceeds from the exercise of stock options, and $32.4 million of proceeds from issuance of common stock under our ESPP, partially offset by share repurchases of $135.2 million and $8.3 million in tax withholdings on vesting of equity awards.
Off-Balance Sheet Arrangements
Through the end of fiscal 2023, we did not have any relationships with any entities or financial partnerships, such as structured finance or special purpose entities established for the purpose of facilitating off-balance sheet arrangements or other purposes.
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Critical Accounting Policy and Estimates
Our consolidated financial statements are prepared in accordance with U.S. generally accepted accounting principles (GAAP). The preparation of these financial statements requires us to make estimates, judgments, and assumptions that affect the reported amounts of assets, liabilities, revenue, expenses, and related disclosures. A summary of significant accounting policies applicable to our consolidated financial statements is included in Note 2 of our Notes to Consolidated Financial Statements in Part II, Item 8. We deem an accounting policy to be critical if the nature of the estimate or assumption it incorporates is subject to material level of judgment related to matters that are highly uncertain and changes in those estimates and assumptions are reasonably likely to materially impact our consolidated financial statements.
We evaluate our estimates and assumptions on an ongoing basis. Our estimates and judgments are based on historical experience, forecasted events and various other assumptions that we believe to be reasonable under the circumstances. Our actual results could differ from these estimates.
We believe the accounting policy below has the most significant impact on our consolidated financial statements and require management's most difficult, subjective, or complex judgments.
Revenue Recognition
Our revenue is derived from sales of our integrated storage hardware and embedded licensed software products and subscription services which also includes support and maintenance and professional services. We enter into contracts with customers that may include combinations of these products and subscription services, resulting in arrangements containing multiple promised performance obligations.
Determining whether our products and subscription services are considered distinct performance obligations that should be accounted for separately versus together may require significant judgment. For these contracts, we account for individual performance obligations separately if they are distinct.
Revenue is recognized when, or as, control of the promised products or subscription services is transferred to the customer at the transaction price. The transaction price is determined based on the consideration which we will be entitled to in exchange for transferring goods or services to the customer. Transaction price may be adjusted for variable consideration which we estimate by applying the expected value or most likely estimate and subsequently update at each reporting period as additional information become available.
To recognize revenue for the products and subscription services for which control has been transferred, we allocate the transaction price for the contract among the identified performance obligations on a relative standalone selling price (SSP) basis. We establish SSP for most of our products and subscription services based on the observable price of the products or subscription services when sold separately in similar circumstances to similar customers. When the SSP is not directly observable through historical transactions, we estimate SSP based on management judgment by considering available data, such as internal margin objectives, pricing strategies, approved pricing guidelines, market/competitive conditions, historical profitability data, as well as other observable inputs. We establish SSP ranges for our products and subscription services and reassess them periodically.
Recent Accounting Pronouncements
Refer to “Recent Accounting Pronouncements” in Note 2 of our Notes to Consolidated Financial Statements included in Part II, Item 8 of this Annual Report on Form 10-K.
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