Analyst Call Summary

conference date: April 29, 2014 @ 2:00 PM Pacific Time
for quarter ending: March 27, 2014 (fiscal third quarter, Q3 2014)

Forward-looking statements

Overview: Small y/y revenue and net income decreases, as storage market holds up well.

Basic data (GAAP):

Revenue was $3.41 billion, down 3% sequentially from $3.53 billion in Q4 and also down 3% from $3.53 billion in the year-earlier quarter.

Net income was $395 million, down 8% sequentially from $428 million, and down 5% from $416 million year-earlier.

Diluted EPS was $1.17, down 6% sequentially from $1.24 but up 3.5% from $1.13 year-earlier.

Guidance:

Cash return to shareholders in June quarter will be similar to the March quarter.

Visibility remains somewhat limited, so planning conservatively. For June quarter $3.3 billion with $505 million op ex including Xyratex. Non-GAAP margin near 28%. Market share 40 to 42%, but modest exabyte growth.

Conference Highlights:

Execution in the quarter was solid. Expenses were slightly lower than planned. Closed the acquisition of Xyratex on March 31. Believes the trend will continue to favor next-generation, often cloud-based, storage.

Non-GAAP numbers: net income was $453 million, down 0.5% sequentially from $455 million. EPS was $1.34, up 2% sequentially from $1.32. Gross margin 28.5%. Operating margin 14.7%. Adjusted EBITDA was $684 million.

GAAP gross margin was 28.2%.

Cash and equivalents balance ended near $2.26 billion. Operating cash flow was $443 million. Free cash flow was $319 million. Repurchased shares for $184 million. Paid out $140 million in dividends. Long term debt is $3.51 billion at an average rate of 5.63%. Inventories ended at $ million.

Operating cash flow was less than normal due to a variety of one-time items and front-end loaded, but should return to normal and be at $2.7 billion for the fiscal year.

50.8 exabytes of storage shipped in quarter, up 8% y/y. 920 gigabytes per drive average. During the quarter introduced new Kinetic development tools, launched a high-capacity HDD for surveillance and video analytics market, began shipments of 12Gb/s SAS 6TB Nearline Enterprise drives, and introduced several LaCie branded products.

Drive ASP fell to $61 (had been $62 in Q2 and $63 year-earlier). Seagate has a 40% share of the HDD market.

Cost of revenue was $2.45 billion. Product development expense was $297 million. Marketing and administrative expense was $190 million. Amortization of intangibles was $26 million, restructuring $2 million. Leaving income from operations of $444 million. Interest and other expense $54 million. Income tax benefit $5 million.

Returning value to shareholders through share buy backs and dividends remains a priority.

In December agreed to acquire Xyratex for $374 million. This should close in June quarter and be accretive in its first full year.

By channel, OEMs represented 66% of revenue, distributors 20%, and retail 14%. Enterprise units rose to 7.7 million from 7.5 million year-earlier, and desktop increased to 19.8 million from 19.6 million, but notebook units declined to 16.4 million from 17.0 million. Non compute units declined to 11.3 million from 11.5 million year-earlier.

Customers are interested in a deeper strategic engagement with Seagate.

Capital investments are currently being managed to the low that our 6% to 8% target range. Production is being managed cautiously.

Expects the second half of the calendar year demand will be higher than in the first half.

Q&A:

Pricing flatness in second half of calendar year? On client side notebook and desktop have stabilized, and expect that for the rest of the year, with stable pricing overall. In Enterprise, given the higher capacity points expected, and the investments for that, "I would see a reduction in that price erosion."

Xyratex, getting to accretion? We have just started with Xyratex, you can expect incremental improvements each quarter, as well as a drive for top line growth.

Xyratex affect on the gross margin? $500 to $600 million is the model for revenue for the first year, we would like to reach that, but the drag on gross margin will be 10 to 20 basis points.

How do you see capacity shipment trends? We tend to think in terms of capacity deployed to end users. A lot of inventory at customers has been deployed has been deployed recently, so demand in the second half is expected to reflect end-user demand, which appears to be accelerating.

Xyratex revenue next quarter? About $100 million, but we don't know the order profile for their test business yet. Their systems business was declining rapidly, but we are getting good traction with our OEMs, but there could be a long lag time.

We are encourages as to global trends in technology spending, with modest growth offset by the normal seasonally down June quarter.

For CSPs (Cloud Service Providers) that buy hard drives directly, they have proprietary architectures that are their competitive advantages. So Google, Microsoft and Amazon have different implementations. In a couple of cases recently large CSPs have brought in time to deployment or had step function increases in utilization. It is not even disk-drive related, it is system related.

Is the op ex guidance for June, how much is Xyratex? $35 million to $45 million.

Initial uptake of 6TB drive by cloud providers? It is in late evaluation by customers and we are seeing very positive response from them all. We think it is a real value and design leader.

Would you take on more debt to make share repurchases? We believe we have the appropriate debt leverage ratio. We are committed to the dividend program, and will continue the share repurchase program. We will have an update in July. We see $1 billion to a more-comfortable $1.5 billion cash level to run the business.

Tax benefit? Just the normal adjustment. Expect about $15 million per quarter going forward.

Enterprise drives have higher gross margins than the corporate average, so relative weakness would bring down margins.

Market share in notebooks and desktops? It has been relatively consistent the last four or five quarters, with the biggest swing a couple of points overall. Half point shifts here and there are to be expected. They are usually due to a product gap or a customer that is doing particularly well. Toshiba, however, has picked up share on the branded side using aggressive pricing. But that resolved itself in the last couple of quarters.

We don't see any changes in the mix strategy, internal vs. external, in the next few quarters. We have been pleased with our mix on the retail side, with higher TB drives leading.

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