Pure Storage Inc

NYSE:PSTG

Earnings Call Transcript 2022-Q2

[Operator]

Good day, ladies and gentlemen. Thank you for standing by, and welcome to the Pure Storage Second Quarter Fiscal Year 2022 Earnings Release Conference Call. At this time, all participants are in a listen-only mode. At the conclusion of our prepared remarks, there will be a question-and-answer session. [Operator Instructions]. As a reminder, this call is being recorded.

I would now like to introduce your host for today's conference call, Mr. Sanjot Khurana. Mr. Khurana, please go ahead.

[Sanjot Khurana, Vice President of Investor Relations]

Thank you, and good afternoon. Welcome to the Pure Storage second quarter fiscal 2022 earnings conference call. My name is Sanjot Khurana, Vice President of Investor Relations at Pure Storage. Joining me today are our CEO, Charlie Giancarlo; our CFO, Kevan Krysler; and our CTO, Rob Lee.

Before we begin, I would like to remind you all that during this call management will make some forward-looking statements, which are subject to various risks and uncertainties. These include statements regarding: the COVID-19 pandemic and related disruptions, our growth and sales prospects, competitive, industry and technology trends, our strategy and its advantages, our current and future product offerings, and our business and operations.

Any forward-looking statements that we make are based on facts and assumptions as of today, and we undertake no obligation to update them. Our actual results may differ materially from the results forecasted and reported results should not be considered as an indication of future performance. A discussion of some of the risks and uncertainties relating to our business is contained in our filings with the SEC, and we refer you to these public filings.

During this call, we will discuss non-GAAP measures in talking about the company's performance, and reconciliations to the most directly comparable GAAP measures are provided in our earnings press release and slides. Additionally, when we refer to sales in our prepared remarks, we mean total bookings exclude cancelable orders. This call is being broadcast live on the Pure Storage Investor Relations website and is being recorded for playback purposes. An archive of the webcast will be available on the IR website and is a property of Pure Storage.

With that, I'll turn the call over to our CEO, Charlie Giancarlo.

[Charlie Giancarlo, Chief Executive Officer]

Hello everyone, and thank you for joining us today. Pure had an outstanding Q2! As a growing, share-taking company, we expect every quarter to be record breaking, but this quarter was extraordinary. Sales, revenue and profitability were well above expectations. Revenue growth this quarter exceeded 23%, and we had the highest Q2 operating profit in our history. I was especially pleased with the growth of both our new and existing products, the balance of performance geographically, and our continuing penetration of cloud and large enterprise. These are all key parts of our long-term strategy that we’ve shared over the past several years. These results also show that our strategy of investing into the pandemic, and specifically investing in our enterprise sales capability and expanding our product line, was the right one.

As we discussed in past calls, we predicted that Pure’s growth would accelerate as businesses adjusted to the COVID environment. We believe that our growth will be even stronger as businesses return to an in-office environment. We estimated that this would start this past Q2, and we are obviously very pleased with the results.

Looking ahead, we expect that businesses will continue to adjust to the effects of the pandemic while driving digital transformation. We believe that the Delta variant has slowed a return to the office environment only temporarily, and that large-scale global vaccinations will do much to enable a full return to normal by spring of next year. As we indicated last quarter, we believe that the current environment enables us to return to our historical double digit growth rates, with increasing profitability.

Our leadership and innovation of the data storage and management market continues to grow.

Our strategy is focused on: delivering a unified cloud operating and procurement model, across all data storage use-cases and environments; enabling modern cloud-native applications built on containers; and driving the modernization of today’s infrastructure with a focus on the all-flash future that modern applications will demand.

Let’s take a quick look at the results. This past quarter provided many areas of outstanding performance, highlighted by the highest total sales for any second quarter in the history of the company, growing more than 30% year over year; continued strength and momentum in Subscription Services revenue, up 31% year-over-year with strong growth in Pure as-a-Service, which almost doubled revenues compared to the prior year; and, our success in large enterprise continues to grow, comprising over 50% of our sales, with our top 10 customers spending more than $100 million in total.

As I mentioned, both our new and existing products achieved new sales milestones. Frankly, the superlatives from this quarter are too numerous to fully enumerate, but here are a few highlights:

Growth of our subscription businesses were very strong this past quarter with sales of both Pure as-a-Service and Portworx approximately tripling year over year. All subscription sales taken together, including Portworx, Pure as-a-Service and Evergreen, increased almost 50% year over year in Q2, and is approaching one-half of Pure’s total sales. These results show both the continued attractiveness of our Evergreen model, and the market’s excitement for our new subscription offerings.

It has been nearly a year since we announced the acquisition of Portworx. Every quarter as part of Pure, Portworx has beaten their targets. This past quarter, Portworx sales tripled year-over-year and continued to gain many new customers both large and small. Financial services and service providers are particularly interested in the ability to easily scale container-based workflows with Portworx. FlashArray//C continues to deliver tremendous growth, with sales tripling over last year. It remains the fastest growing new product in Pure’s history and is enabling customers to transition to an all-flash data center. Cloud customers, in particular are making use of FlashArray//C to improve their reliability, to reduce their environmental footprint, and to lower their operational costs.

For instance, a recent eight-figure win with a top 10 hyper-scaler which will begin to ship this Q3 was won against traditional magnetic disk based on our high performance, small space and power footprint, and superior total cost of ownership. SafeMode is another compelling reason why ever more customers are turning to Pure. This high-performance ransomware protection solution for both FlashArray and FlashBlade takes less than a millisecond to create an immutable copy of data for fast recovery. And customers can send these snapshots to a variety of destinations such as FlashArray//C, FlashBlade, or AWS, Microsoft Azure, and NFS shares. Only 6 months after introduction, over 500 customers have enabled SafeMode.

These examples demonstrate the success of our strategy to provide organizations with the modern data services they need to modernize their data infrastructure, to take advantage of modern applications, and to manage their data and infrastructure through code, in a multi-cloud environment. Our focus on these goals has been rewarded with new and expanding customer relationships.

For example, one of our enterprise customers, a Global Fortune 500 financial services firm, recently chose a Pure as-a-Service subscription to fuel the expansion of their core operating applications in a virtual Hub. While increasing the performance, flexibility and scale of this global platform, they were able to reduce their physical footprint by nearly 80%, contributing significantly to their environmental sustainability goals. They estimate that this will reduce their total cost of ownership by nearly 70% while providing significant performance increases.

And with growing global concerns about ransomware attacks, a UK-based securities firm with sub-millisecond performance requirements found performance, simplicity, and safety in Pure’s recovery capabilities. Using FlashArray SafeMode with our FlashBlade FlashRecover solution on an Evergreen Gold subscription, they now have the data protection and unified fast file and object platform they need to scale safely.

Our strategy since our founding is to focus on doing the right things for our customers and on doing things right. Our environmental goals dovetail with our customer-first values. Part of ensuring that our products and services have the lowest total cost of ownership means designing products that use less energy, require less cooling, need less maintenance, take up less space and produce less waste.

With our customers’ increasing focus on their own environmental footprint, we will be providing more quantitative measures and sustainability programs going forward. Pure Storage is advantaged by the major trends in our industry: we enable companies around the world to shift to a cloud-operating model for their private and hybrid cloud infrastructure; we lead in driving the all-flash data center; and we have the most advanced services and tools to automate data management for our modern cloud-native applications.

As we entered the year, we stated that our customers would accelerate their investment in digital transformation with renewed confidence in economic recovery this year. This was clearly evident in our performance in the first half and especially this past Q2. In the current environment, we are confident that the momentum of our first half will continue into Q3 as evidenced by our Q3 guide and raised annual outlook. I want to thank our employees and our partners who have worked tirelessly to support our customers with great products and great service, throughout the uncertainty of COVID-19, and who have created our sustainable momentum. Everyone at Pure deserves to feel proud of the advancements we have made through this difficult period.

One last note that I would like to add before I turn the call over to our CFO Kevan Krysler. I am very pleased to announce that Rob Lee, whom many of you know, has just been promoted and will serve as Pure’s Chief Technology Officer. Congratulations, Rob. John Colgrove, a.k.a. Coz, who in addition to his title as founder also served as CTO, will now take the title of Chief Visionary Officer. Rob will continue to report to him, and Coz will continue to serve Pure full time. Congratulations, Rob and Coz.

Kevan, over to you.

[Kevan Krysler, Chief Financial Officer]

Thank you Charlie and good afternoon. We could not be more pleased with the strength of our business, our execution and Q2 financial results. We saw strong sales execution across the globe which is reflected in our sales growth of 32%, excluding cancelable orders. Similar to what we saw last quarter our entire portfolio, including our subscription services, contributed to our performance.

Our core business of FlashArray//X gained significant strength across our Enterprise, Commercial and Public Sector customers, FlashArray//C sales more than tripled year over year, and FlashBlade sales established a new record high for Q2. Our revenue growth was 23% this quarter, and product revenue had its highest year-over-year growth rate compared to the previous seven quarters. Remaining performance obligations, or RPO, which includes our committed and non-cancelable future revenue was $1.2 billion, growing 25%. RPO growth reflects the continued strength of our Subscription Services, including record sales this quarter of our unified subscription, Pure as-a-Service.

We acquired 380 new customers representing 10% year-over-year growth, and we saw particular strength with new enterprise customers this quarter.

Now turning to specific financial results for the quarter. Total revenue grew 23% to approximately $497 million. Revenue in the United States grew 25% and International revenue grew 18% compared to last year. Subscription Services revenue grew approximately 31% year over year, and represents approximately 35% of total revenue. Product revenue was very strong during the quarter growing 19%. The differentiated value of our software and solutions continue to be reflected in our non-GAAP total gross margins of 70.5% this quarter. Non-GAAP product gross margins continue to be on the high end of our long term expectations at 70.3%. We expect that product margins will fluctuate depending on product mix as our newer offerings continue to scale.

Non-GAAP subscription services margins were 70.7%. Revenue and gross margin outperformance and improving sales efficiency contributed to delivering strong non-GAAP operating profits of $46.6 million. Continued reduced travel due to the on-going COVID environment and slower-than-planned hiring also contributed to lower operating expenses during the quarter. We ended the quarter with over $1.29 billion in cash and approximately 3,900 employees. Cash flow from operations achieved a record high this quarter of $123 million, resulting from improved linearity and strong collections as well as increasing operating leverage. Capital expenditures were $28 million during the quarter. We returned approximately $44 million of capital to repurchase slightly over 2.3 million shares as part of our $200 million share repurchase program.

Now turning to guidance. We are very pleased with our sustained momentum and improving operational efficiencies. We expect Q3 revenue to be approximately $530 million, growing almost 30%. Our revenue guide for Q3 includes revenue we expect to recognize in connection with the sale of FlashArray//C to one of the top 10 hyper-scalers. We also expect non-GAAP operating profit will be approximately $40 million.

I have mentioned in previous quarters that we would not be updating our annual view. However, given the strong performance of our business over the last several quarters, including our strong financial outlook for Q3, we have also updated our annual view. We now expect that revenue for the year will surpass $2 billion, growing approximately 21% to $2.04 billion. We also expect that operating income will be approximately $150 million.

This is an exciting time at Pure. Our strategy, innovation and service is compelling for our customers and we are executing with a focus on accelerating revenue growth and increasing profitability. Thank you to all of our employees and partners. I am also really looking forward to having you join us at our virtual Analyst Day on September 28.

With that, I will turn it over to the operator so we can get to your questions.

[Operator]

[Operator Instructions] And your first question comes from line of Pinjalim with JP Morgan.

[PinjalimBora]

Seems like a super solid quarter here. Probably one of the highest beats I think if I was just looking at it going backward. Charlie maybe at a high level, did anything surprise you in the quarter when we were doing checks? A lot of partners can have highlighted that Pure continues to be -- continues to see relatively short lead times, while competitors tend to struggle with the longer lead times. Do you think that is helping you to gain share? Anything that surprised you in the quarter would love to know?

[CharlieGiancarlo]

I think the reason why we continue to gain share and why the quarter was so good is that we've been preparing a portfolio of products that are really second to none. And while that was being done during the beginning of the COVID crisis, of course, there's a lot of disruption in our customer base. But as the customers have become accustomed to operating within the COVID environment, that portfolio and our focus on developing a set of enterprise capabilities, both in sales support as well as with our products, it's finally all coming together and hitting stride. And so no, we expect this to be the beginning, if you will, of very evident growth for the company as we go forward.

[PinjalimBora]

Strong comments. Thank you for that. One follow-up for Kevan. It seems like you were able to maintain the gross margin sequentially, if I did my math correctly, quickly. Despite the inflationary pressures that have been creeping up, is it fair to say that you saw kind of a better pricing environment maybe as the component price inflation presumably made the competitors do less discounting in the field?

[KevanKrysler]

Well, hey, Pinjalim. One is, I think the -- your math is right. So absolutely, we held on gross margins. And I really think that's a testament to a couple of things. I think our operations team continues to do an outstanding job. Our suppliers are continuing to work very closely with us. And yes, to answer your question, specifically, discounting did hold and I really attribute a lot of that to our sales team, and the discipline and execution in terms of why we saw the gross margin performance that we saw.

[Operator]

Your next question comes from line of Aaron Rakers of Wells Fargo.

[AaronRakers]

Yes. Thanks for taking the question. Also congrats on the solid results and guide. Throughout today's call, you referenced the fact that you've now got a -- top 10 hyperscale customer, it sounds like for the FlashArray//C product. I guess the question on that is that, is that tied to their cloud offerings or is that for internal usage? And do you expect this to kind of be the beginning of more potential hyperscale customer traction for the company going forward? And I have a follow-up.

[CharlieGiancarlo]

Yes, it’s a part of their overall operations. So I think the answer is affirmative from the question that you asked. And, we do feel that this is sustainable both in the sense of continuing with this customer, as well as we think it's the beginning of seeing other similarly situated hyperscale customers starting to look at flash as a real alternative.

As you may know, most of the hyperscalars, the vast majority of what they store, they store on disk. They may have a little bit of flash in their servers, but for the most part, all storage is on disk. And we think this is the beginning of breaking that structure. We finally have the kind of price performance that can really compete within the disk market.

[AaronRakers]

Very helpful. I wanted to -- the follow-up question is on actually the subscription revenue, you referenced the subscription revenue up 31%. And then I think you mentioned that on a combined basis, Pure as-a-Service, Portworx and I believe Evergreen was up close to 50% year-over-year if I correctly got that. So, I guess, I'm curious of what is other -- what is in that other Subscription Services line that maybe wasn't growing as fast as the three combined that you mentioned?

[KevanKrysler]

Hey, Aaron, this is Kevan. And this is just a clarification. I think the 50% reference is really towards sales and bookings and then obviously the revenue and there's a lag with the revenue. So, two different metrics here that we're referring to.

[AaronRakers]

Okay, so just to be clear, Evergreen, Portworx and Pure as-a-Service basically are the majority, if not all of the services line in the P&L?

[KevanKrysler]

That's correct.

[Operator]

Your next question comes from the line of Sidney Ho with Deutsche Bank.

[JeffRand]

Hi, this is Jeff Rand on for Sidney. I just wanted to kind of follow-up on the FlashArray//C into the hyperscalers, can you give us an idea of how close the pricing has gotten compared to HDDs? Or is this more about the need for better performance by the cloud providers?

[RobLee]

This is Rob. I will jump in, and take that one first. So, when we look at FlashArray//C relative to the hybrid disk systems its competing with, generally speaking, we're seeing FlashArray//C being very price competitive, and actually price have been -- up to 30% price advantage in some cases. But I think what we're seeing, especially with this large hyperscaler deal is that, price is one element of the equation but all of the other attributes and benefits we are able to bring from flash, such as the performance, such as power, cooling savings, footprint savings, those are all very meaningful across the board. But at the hyperscale, they become super, super meaningful, right? And so, as we look at, for example, this customer, FlashArray//C was the only product that can meet their needs, without them having to go build new data centers.

[JeffRand]

Great, thank you. And then just as my follow up, you didn't mention anything on supply chain in your prepared remarks, can you give us an update on that, if you're missing out on any revenue new to supply chain constraints?

[CharlieGiancarlo]

Yes, no, again, I think we're doing a great job with our operations team, in partnership with our suppliers. Obviously, the environment, from our perspective hasn't changed much from what we saw last quarter. We just continue to be focused on it. And obviously, you see the results in our print. And so this will be an area that we will continue to focus on through second half. We'll manage that. But again, a testament to our sales team to continue selling the value, especially the software value associated with our solutions.

[Operator]

Your next question comes from one of Wamsi Mohan of Bank of America.

[WamsiMohan]

Yes, thank you. Your guidance for next quarter calls for close to 30% growth. But all that can be explained from sort of that acceleration from 22 to 30 can be explained really to easier compares. On the one hand, you're seeing, very good traction, Charlie you spoke about share gains. You essentially are reiterating sort of this better outlook for the full-year as well. Just trying to reconcile why wouldn't you see a further organic acceleration on top? I'm not saying 30%, 30% is really good, but why aren’t we seeing a further acceleration, especially when you think about the comments around the backdrop of Delta being maybe somewhat transitory?

[KevanKrysler]

Wamsi, I'm not sure I would follow your math in terms of 30% being entirely explained by the easier compare last year, it does represent a significant growth rate not just over last year, but frankly over the -- if we take -- and as a company we are looking at not just at year-over-year growth rate but year over two year growth rate because of obviously the anomalous compares with last year, and it's a substantial gain even over a two year compare rate. So, we think it's a suitably appropriate guide for this coming quarter, given the entire environment. And it is of course a raise, both from our annual look forward as well as to what was consensus. So, we do feel that it's an appropriate raise.

[CharlieGiancarlo]

We are very pleased with what we're seeing in terms of the Q3 outlook and the idea that, we're driving almost 30% growth next year, with the opportunity we highlighted on FlashArray//C. So, I think the guide that we've come out with Q3 is actually quite strong. We're very pleased with that.

[WamsiMohan]

Okay, great. If I could, I think I heard you Kevan maybe say that, some of the operating margin improvement, the operating profit dollar improvement was a function of not able to hire as fast as maybe you would have liked to. Can you just elaborate a little bit on that? How much behind are you versus target in terms of hiring? How should we think about the trajectory of that for the next few quarters? Thank you.

[KevanKrysler]

Yes, absolutely. And again, what I really was pleased with, with the quarter was not only the top-line growth that we're driving, but the operating leverage that's coming with it. And really that's coming really from the sales organization. We are seeing really strong productivity and sales efficiency and discipline, and we're seeing that come through primarily on the operating leverage that we saw for Q2 and frankly the increased outlook for the remainder of the year. And so, when I think about the increasing operating leverage, I would look at first what we're doing in terms of outperforming on sales, as well as the gross margin performance, execution of the sales team. And then, yes, we've got a little bit of tailwind from the COVID environment. As I look at Q2, I would kind of view that between 1 to 2 points of the 9 points that we saw this quarter. So not a significant tailwind, but there is a bit of a tailwind that we saw for Q2. And, yes, we're managing that quite well.

Obviously on the sales side, even though we're got some more hiring to do on the sales side. They are just doing such a great job in terms of productivity. Participation rates are tremendous. We're seeing a great growth in participation rates, both on individual contributors, as well as the first line managers. So, like what we see there.

[Operator]

Your next question comes from on for Steven Enders of Keybanc.

[UnidentifiedAnalyst]

Hi, this is George on for Steven. Thanks for taking the question and reiterate my congrats on the quarter. I just wanted to ask if you could give us an update on your ability to close new logos. And then in the past, you've mentioned out COVID as a bit of a constraint from that, but then we've seen things sort of open up and then the Delta variant coming back. So, just an update on where you stand from that perspective. Thank you.

[CharlieGiancarlo]

Yes. We do feel that, people working at home, offices not really being open is a bit of a constraint on net new logo growth. Despite that, of course we were pleased with the 10% growth we saw year-over-year, but in past years, of course, we saw more. We believe that as things opened up more, obviously that's been delayed a bit because of the Delta variant, but as things opened up more late this year, early next, we expect that to actually just improve our net new logo gains. But, in the meantime, our continuation to penetrate deeper and deeper into existing accounts, to penetrate deeper and deeper into the enterprise, and I might point out as well that our net new logo gains in enterprise was actually quite a bit strong. So as you might imagine, the commercial logo gains swamp because there were so many more commercial accounts.

In terms of net new logos, net new logos tend to be dominated by commercial, but actually our gain of enterprise net new logos this past quarter was actually quite healthy.

[UnidentifiedAnalyst]

Great. Thank you. That's very helpful. A quick follow-up. Obviously, it's a nice bottom line outperformance this quarter. Can you give us an update on how you're thinking about driving growth versus operating leverage over the long term? Thank you.

[CharlieGiancarlo]

Yes, we feel like at this point in time, given our product portfolio and given the productivity that we're seeing from the sales force, we're going to be able to deliver both. We're going to be able to deliver both continued double digit growth as well as continued improvements quarter by quarter in our operating profit margins. So, yes, no, we're quite confident in that.

[Operator]

Our next question comes from the line of Simon Leopold of Raymond James.

[SimonLeopold]

Thank you for taking the question. I first wanted to sort of check on how you're thinking about the longer term growth trajectory? Because in the past, Charlie, you've mentioned growth exceeding 20% and now you put up 23% and you're guiding for 29%, which maybe there's some easy comp to it. But if you could just sort of update us on how you feel about the overall trajectory relative to your prior comments about exceeding 20%?

[CharlieGiancarlo]

Yes. No, we've made that commentary in the past because we feel quite comfortable that we will be exceeding 20% for the foreseeable future. I think we're going to stick to that point right now, which is exceeding 20%. I do think that we have room to grow beyond that again, as COVID wanes. But predicting that right now is probably not a fool's errand for all of us. But we do feel comfortable that in this type of COVID environment that we can continue to grow at over 20%.

[KevanKrysler]

And Simon, we'll provide some more color on that as well on our virtual Analyst Day. So we look forward in terms of our longer term growth rate. So look forward to having those conversations as well.

[SimonLeopold]

Great. And then just as a follow-up. You were helpful in terms of talking about bucketing revenue recurring, but maybe another way to segment your contribution. If you could talk a little bit about what portion of revenue and what's the trajectory for revenue that you would consider off premise? So what you're doing with hybrid cloud and things like the Cloud Block storage with Azure, what you're doing with AWS? Could you help us get a better assessment of how that fits into the model?

[CharlieGiancarlo]

Yes, very much. So first of all, we've stated in the past that, cloud revenues has been about 30% plus. We haven't really calculated it for this quarter to be talking about. But it's trending generally the same. Of course, cloud is an area that we're very focused on and it's an area that we hope can actually continue to increase for us, especially as more and more customers and workloads go to either SaaS environments, cloud environments and as the consumer cloud continues to scale. And we feel as you're seeing with the FlashArray//C that over time we -- because our belief in the all-flash data center, the last bastion of mostly disk data center right now is actually in the cloud. And so it represents a great opportunity for us.

[Operator]

Your next question comes from the line of Shannon Cross of Cross Research.

[ShannonCross]

Just a couple of questions. The first, strength in cash flow, free cash flow. Obviously, you're buying back stock. Curious how you're thinking about acquisitions and other uses, you were about a year off when you announced Portworx. Then I have a follow-up.

[CharlieGiancarlo]

Yes, thank you, Shannon, we continue to be investigating opportunities for M&A. We believe that M&A that really enhances our ability to provide a cloud operating model for our customers is the right way for us to be focused. And there isn't a quarter or even a week that goes by where we're not investigating potential combinations for the company. So M&A continues to be an active area of investigation for us.

[KevanKrysler]

And I just -- I do want to comment on the strong operating cash flows, which I think were tremendous for the company. And again, I think there were kind of three areas that I would attribute that to this quarter. One was really that the great linearity that the sales team drove this quarter, which really improves collection efforts. And we saw that come through with the record operating cash flows that we saw this quarter. And the other thing, obviously, is the continued focus as a company we have on operating leverage, and we're seeing some good benefits from that as well.

[ShannonCross]

Okay, thanks. And then I'm just curious, given the inflationary environment, how are you thinking about component costs longer term and also just, some of the increased headcount, et cetera, costs that you're seeing? I know you're managing things well, and part of the pricing environment remains fairly positive. But how are you thinking about this, given what we're at least seeing coming from an inflationary perspective? Thank you.

[CharlieGiancarlo]

Yes, it's a great question. Let me start, Kevan, you might have more. I would really separate it into the two items that you mentioned. One is component costs, which we have seen an increase, on average, about probably about 10% this year in increased component costs. But of course, we live in a -- on a longer term deflationary environment on component costs. So, we really view that as a temporary phenomenon having to do with supply chain shortages, and that should come back in the next year or so, to where to the standard long-term price reduction curve that exists in that environment.

On the flip side, absolutely, there's going to be -- and we're already starting to see the signs of an inflationary environment around wages. Our forecast and guides take that into account, but certainly, what you speak of is becoming evident.

[KevanKrysler]

And one of the things I would just make sure to highlight too, back to the component cost is, look our approach to sourcing raw NAND really continues to be an advantage for us, really, when we look at some of other folks who are leveraging sourced SSDs and leveraging our software capabilities to enable NAND management is really beneficial for us in this time as well. So I think that’s an important comment.

[Operator]

Your next question comes from line of Karl Ackerman with Cowen and Company.

[KarlAckerman]

Yes, good afternoon, gentlemen. With Portworx tripling revenue year-over-year, is it now accretive to operating income? And then second, you're exiting the fiscal year in the low double digit EBIT range that's in line with record quarterly results exiting 2019. That’s certainly, really good. The question is, while some skeptics may suggest that's the -- maybe the best you can do, can you discuss the operational improvement since the beginning of 2020 that would argue operating profit improvement is sustainable and able to grow? Thank you.

[CharlieGiancarlo]

Yes. Well, thanks for the question Karl, that's been on people's minds. Focusing on operational improvement, productivity enhancement across the board of the company has been something we've been very focused on over the last several years. COVID obviously set us back a bit, because obviously we plan to grow into productivity, and with COVID, we decided to continue to invest in areas that were we felt very important to our long-term growth, in particular, investing in our ability to penetrate large enterprise, which by the way, is part of productivity improvement; and two, was to invest in broad scale portfolio of products, again to help us to be able to penetrate and achieve much greater wallet share in our customer base. It was only a few years ago where we could only address maybe 10% of their storage needs, and today it's much wider than that.

So, as we look forward over the next several quarters with the anticipation for the top-line change that we've already discussed, we know quite strongly what our productivity gains are going to be in the different parts of our organization. And these are productivity gains that we're going to be able to continue to maintain inside the company. Again, last year was the anomaly, as it was for many companies, but in different ways. For us, it meant that our continued investment that we wouldn't see the productivity or the sales return on that until the economy started to improve. And now we're starting to see that.

[KevanKrysler]

Yes, let me just add onto that a little bit, if you don't mind. Look, I think we've made -- none of this is surprise for us in terms of the increasing operating leverage. We're driving for this -- all due to the points that Charlie is making. And you actually see the great strides at go-to-markets making in terms of their costs and expenses as a percentage of revenue. I think that's going to continue. I think we'll see over time, we'll get some benefits on R&D as well. And obviously on our gross margins, continue to be strong. We've seen that on the product gross margin side, and also believe we can get more scale and improvement on subscription gross margins over time, as our unified subscription Pure as-a-Service scales. So, I absolutely believe there is upward trajectory to our operating leverage.

[Operator]

Your next question comes from a line of Rod Hall of Goldman Sachs.

[RodHall]

Yes. Thanks for the question. I guess I wanted to start Charlie with this FlashArray//C sale to the hyperscaler. I'm really intrigued by that as an opportunity. And I wonder if, maybe you can give us any more color on what that use case looks like, and are there other hyperscalers in your pipeline with very similar use cases? Just how big is that opportunity for you and what does that pipeline look like with those types of customers? And then I've got a follow-up.

[CharlieGiancarlo]

Yes. So first of all, the individual opportunity itself is a very large opportunity. It's not a one-off, it's something that will continue as we go forward, as we understand it. It is a -- you can think of it as a general purpose implementation for one of their key application environments inside the organization. So, I really can't go much, much further than that. But it's not something that is unusual or extraordinary in a hyperscale environment. So, it is something that's easily transferable to other hyperscalers. It's not the -- by the way, it's not the first of the top 10 hyperscalers that we've sold FlashArray//C into. It's just one that is significant for a single quarter and we do believe that this is something that we can continue to expand to other hyperscalers as well.

[KevanKrysler]

And just to be clear too, in terms of the strength we're seeing in our Q3 guide. Look, when we exclude this great opportunity that we're seeing with FlashArray//C in a top 10 hyperscaler, we're still in our comfortable 20%, plus 20% year-over-year growth rate, excluding that opportunity. So I think that's important to note as well in terms of the strength, is across the business and is across the portfolio. We're really excited about the FlashArray//C opportunity, but it's really incremental to the strength we're seeing.

[RodHall]

Okay, great. That's helpful. Thanks for that. And then I was also interested in this comment you made on wage inflation. I guess it's tough to know kind of how that might play out over the next 18, 24 months. So just curious if you guys have any thoughts on what sort of inflation we'd be talking about? Are we talking about few percentage points you think you might incur? Or any kind of thoughts on quantification there?

[KevanKrysler]

I don't want to go over -- I don't want to overestimate what it might be. But our thinking is it's going to be a few percentage points.

[Operator]

Your next question comes from the line of Amit Daryanani with Evercore.

[AmitDaryanani]

I have two. First one, looking at the subscription growth metrics of 31%, which is obviously fairly impressive. And I think investors are going to just struggle with that number a bit. So I am wondering, is there a way to think about how much of this growth is coming from existing customers versus new customers? And then could you also quantify the size of some of the components that are well in the subscription line?

[KevanKrysler]

Yes. We're not going to get into a whole lot of detail on that. Now, obviously on virtual financial Analyst Day, we'll provide some color that hopefully you'll find helpful in terms of our subscription momentum. And look, nothing's changed significantly. We've got great momentum on our unified subscription with Pure as-a-Service that we've highlighted. Portworx, still very important from us from a strategic perspective, but the performance is excellent. And obviously, our Evergreen is our bread and butter, it's our baseline, largest piece, continues to be so for the -- in terms of what we're looking at for this year. So we'll get to more details on that as we look out to the Analyst Day. But that would be all for now.

[AmitDaryanani]

Fair enough. And then if I could just follow up, if I'm looking at the growth guide that you're providing for October quarter and the full year, the implication is obviously that October will be up 29%, 30% year-over-year. You've touched on that a bit. But then I think your implications for Jan quarter, it’s going to decelerate to like 19%, 20%. I mean, that's sort of a really good number, but I would love to understand why the deceleration, are you seeing a bit of a pull in or are you just being conservative at the [implied] Jan quarter numbers? That'd be helpful.

[KevanKrysler]

Well, I think it's important that we've been talking about the large hyperscaler, with the top 10 hyperscaler on the FlashArray//C that's putting some more strength on our Q3 guide. But look, sequentially, it's -- even sequentially Q3 to Q4, I'm pleased with what we're seeing year-over-year close to 20% for the annual outlook exceeding 20%. So overall, quite pleased with it. Don't really view it as a decel, especially when I think about our larger opportunity that we're digesting or expect to digest in Q3 with the FlashArray//C opportunity.

[Operator]

And your next question comes from the line of Kathy Huberty with Morgan Stanley.

[KathyHuberty]

Kevan, just a comeback to the third quarter contribution from the Hyperscaler account, was that -- was the revenue contribution from that customer baked into the original for your revenue outlook? And are you expecting any contribution from that customer that would be material in the fourth quarter?

[KevanKrysler]

That's a great question. Look, when we were looking at the annual guide at the beginning, no, it's fair to say that we wouldn't have contemplated. So it's part of our beat, both from an annual perspective and how we're looking at it for Q3. And we're not expecting a significant amount to come through in Q4. We'd expect the larger piece in Q3.

[KathyHuberty]

Okay, thank you. And then just a follow-up, maybe for Charlie, if we step away from the slower hiring in 2Q, which I assume is more a function of the tight labor market, how are you thinking about hiring in the coming quarters to support the stronger demand you're seeing, and the intention to sustain growth rates north of 20% for the foreseeable future?

[CharlieGiancarlo]

It's a great question, Kathy. Obviously, we want to sustain the strength and momentum of our sales capability. So, a high degree of focus on sales teams, both U.S. and internationally, and then continuing to develop -- further develop our infrastructure to being able to support sales. So, I would say largely, the areas of IT, other areas that supports sales growth, but the large -- the largest focus is going to be on sustaining sales momentum.

[Operator]

Your next question comes from line of the Nehal Chokshi with Northland Capital.

[NehalChokshi]

Yes. So just to be clear, this top 10 hyper scalar revenue contribution for Q3, very clear now, what was going to, but how much did it contribute during Q2 though?

[KevanKrysler]

We didn't have an impact for Q2, Nehal.

[NehalChokshi]

No impact for Q2. Okay. Great. And then you said that PaaS doubled in revenue year-over-year, but what about Paas bookings?

[KevanKrysler]

So PaaS bookings almost tripled, almost tripled year-over-year. Yes.

[NehalChokshi]

Wow. Okay. That's very impressive then. And then finally, you have your long-term model listed in your presentation for a couple of quarters now. Presumably, that's because you hope to update at the upcoming Investor Day. Is that correct?

[KevanKrysler]

That's correct.

[Operator]

Your next question comes from line of Matt Cabralwith Credit Suisse.

[MatthewCabral]

Yes, thank you very much. I want to dig a little bit more into the Cloud Block Store. I think it's five, six months since you guys went GA on Azure. Just curious what the ramp has been there so far? And there's any way to compare and contrast what the ramp on Azure has looked like compared to what you saw on AWS the first time around?

[CharlieGiancarlo]

Yes, absolutely. Well as we've said, in the past Cloud Block Store, fundamental part of our overall Pure as-a-Service subscription. And no doubt, it was very critical in driving part of that growth of the Pure as-a-Service, as many customers already determine which of the hyperscalers they want to use. And it's been instrumental in several of our Pure as-a-Service deals, some with some very large, certainly Fortune 50 companies that had set their sights on Azure. So, from that standpoint, very strong. And then, with respect to actual deployment on Cloud Blocks, actually I'm going to let Rob take that because he's the one that's been most tied into it.

[RobLee]

Yes. So, on the deployments, Azure has come on really strong, right? So we've seen -- we see customers now deploying across AWS and Azure, I would say demand for Azure tends to be a little bit stronger. But if we step back from it, I think we look at Cloud Block Store and Portworx as a combination, really as forming the backbone of our cloud portfolio and we're seeing strength across the board there, really both from customers that are deploying in cloud day one with both Portworx and Cloud Blocks are now available in multiple cloud providers, but as well customers that are starting with Pure-as-a-Service with the unified subscription on-premise, and then later on growing and transitioning into Azure or AWS over time. And so, we see both of those motions and I think that's just validates our strategy as well as thesis that customers continue to value the flexibility and uniformity that we're able to deliver across the prem, hybrid, cloud and multi-cloud environments.

[CharlieGiancarlo]

I will say, just to finalize our thoughts on Cloud Block Store that, it is a fundamental part of the unified subscription. We rarely see -- although we do see some customers that will just go to Cloud Block Store without having arrays on-prem. But far more customers are using it as a way for them to be able to transition from on-prem into the cloud. And therefore the -- it starts off as a unified subscription. And then they start to migrate whether it's for disaster recovery or other capabilities, they have test into their cloud environment using Cloud Block Store. So it tends to be, first of all, an attractive element to the unified subscription. But secondly, taken advantage of subsequent to the engagement on the Pure as-a-Service.

[MatthewCabral]

Got it. All that's really helpful. And then just a quick follow-up, you called out enterprise momentum several times in the prepared remarks and a couple of times in the Q&A. But just wondering, if you can you spend a little bit more on just biggest contributors or drivers to that strength. And I'm curious if there is any way to think about how much of that momentum is just bigger footprint within existing customers versus getting into some net new wins versus the competitive landscape, and maybe those being a little bit bigger than they were in the past?

[CharlieGiancarlo]

Yes. It's actually all of the above. First of all, having a broader portfolio gets you more respect within an enterprise customer, whether that's a new customer or an existing customer. We had enterprise customers four years ago when I first joined and their first response to me is, “Pure you're great, but we can only use you for this specialized environment. Why can't you build products that cover the rest of our storage footprint?” And so having a broad portfolio is necessary to be a good partner to an enterprise customer. It also allows you to compete for larger deals inside those customers. And then for a number of customers, this was certainly true with a lot of banking customers. Until we can reach a certain scale and address a certain percentage of their footprint, they actually didn't even want to talk to us, because they want to have, what are very significant relationships.

So really -- so then going back to the beginning of your question, it's been because of the investment that we've made into enterprise capabilities, both sales, as well as support. It's been investment in the breadth -- the broadening of the product line, and it's been about maturing our own organization in terms of how to work with enterprise customers. So, all of those have contributed to our ability to -- and our success that we've seen in expanding our enterprise business.

[KevanKrysler]

Just to add onto that, I think one of the areas that we haven't talked too much about today, in the portfolio is FlashBlade. And I think that's a great example of where we've invested in broadening the portfolio, broadening our enterprise capabilities and feature sets. And that's reflective in the strength we saw, FlashBlade did extremely well in terms of large deals. And just getting back to Charlie's point, having the breadth of enterprise capabilities in the portfolio, whether it's FlashArray//C, which we talked quite a bit about, FlashArray//X or FlashBlade. Having all of that together really just helps us go and prosecute these opportunities.

[Operator]

And your last question comes from the line of Matt Sheerin with Stifel.

[MattSheerin]

Charlie, in your opening remarks you talked about seeing somewhat of a slowdown in return to office on-prem as customers -- and certainly we've heard that from other companies as well. Your guidance for the quarter is strong even without that hyperscaler deal. So could you give us more color on what you're hearing from customers and partners about timing of projects? And in your visibility, is it better or perhaps weaker because of that?

[CharlieGiancarlo]

No, I think our visibility into their build-outs has been excellent. It really has. So they share a very -- they share openly with us. Obviously, planning of build outs take some time, so they do want to share openly. I would say that the returns -- we've been -- remember, there's only about a couple of months when there was people returning to the office and then it got slowed down right away. So most of the improvement we're seeing is from the improvement of working in a COVID environment, not because things freed up tremendously over the summer. So our guide just -- as I mentioned before, just reflects the way the world is as we see it today, not based on any further opening up. We do think that when the world does open up, we'll see even better performance to be clear.

I would say that, if anything, on a very small basis what we did see was some projects move out, not because of COVID, it was all because of customers' ability to get other products for their build-out with servers, networking, sheet metals, power supplies, whatever it might be, we definitely saw expected timelines push out a bit on -- in some customer environments. So -- but all that I think bodes well for us in the future as things improve.

[MattSheerin]

Okay. Thank you. And you talked a lot about the strengths you're seeing from the enterprise customer base. Again, last quarter you called out commercial as finally picking up. Is that continuing to hold up? Are you seeing any other signs there?

[CharlieGiancarlo]

It did hold up, but it didn't improve any more than it did last time. So that's what we're waiting for. As COVID improves, we think commercial will pick up even more. But it did hold up certainly through this last quarter and we expect it to hold up through this quarter.

[KevanKrysler]

Yes. I think the commercial business did really well. I mean, obviously coming off such a fantastic quarter last quarter and then holding on to that strength, I think is pretty impressive. So we were impressed with both enterprise and commercial.

[Operator]

And this concludes the question-and-answer session. At this time, I'll turn the call back over to Charlie Giancarlo for closing remarks.

[Charlie Giancarlo, Chief Executive Officer]

Thank you, operator. Well, Q2 has really been a fantastic quarter for Pure as our strategy and our execution have become evident this quarter. Pure is being chosen because we deliver a leading and highly differentiated technology with also best-in-class customer experience. It's a very exciting time at Pure and we're in a great innovation cycle with our portfolio and our sales momentum and our execution has never been stronger. I do want to recognize again, the hard work of all of our employees at Pure, and the strong collaboration that we've had from our business partners, everyone's singularly focused on delivering strong results for our customers. Thank you all and have a good evening.

[Operator]

This concludes today's conference call. You may now disconnect.