Seagate Technology (STX) Q2 FY2026 Earnings Call Transcript

Date: January 27, 2026 | Source: Motley Fool (fool.com) full conference call transcript

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Shanye Hudson (Investor Relations): Thank you, operator, and good afternoon, everyone. Welcome to Seagate Technology's fiscal second quarter 2026 earnings call. Joining me on the call today are Dave Mosley, Seagate's Chair and Chief Executive Officer, and Gianluca Romano, our Chief Financial Officer. We have posted our earnings press release and detailed supplemental information for our December quarter results on the Investors section of our website. During today's call, we will refer to GAAP and non-GAAP measures. Non-GAAP figures are reconciled to GAAP figures in the earnings press release posted on our website and included on our Form 8-K.

Before we begin, I'd like to remind you that today's call contains forward-looking statements that reflect management's current views and assumptions based on information available to us as of today and should not be relied upon as of any subsequent date. Following our prepared remarks, we'll open the call up for questions. In order to provide all analysts with the opportunity to participate, we thank you in advance for asking 1 primary question and then reentering the queue. With that, I'll turn the call over to you, Dave.

William (Dave) Mosley (Chair and CEO, Seagate Technology): Thanks, Shanye, and hello, everyone. Seagate closed out calendar 2025 with a record-breaking quarter, driven by sequential revenue growth across nearly all end markets. We expanded non-GAAP gross margin above 42%, supported by the execution of our pricing strategy, along with an improving mix of our high-capacity drives as HAMR shipments ramp. Over the calendar year, we increased revenue by over 25%, improved gross margins by nearly 740 basis points, and expanded operating margins by an even greater amount, demonstrating the profitability leverage in our financial model.

2025 also solidified HAMR technology as a long-term enabler of mass-capacity storage. We ended the year shipping 3 terabyte-per-disk Mozaic-based HAMR products to our first CSP customer. By year's end, quarterly HAMR shipments exceeded 1.5 million units and have continued to ramp. Mozaic 3 HAMR drives are now qualified with all of the major U.S. CSP customers, and qualifications for our second-generation Mozaic 4 terabyte-per-disk products are tracking well to plan. These developments align with our long-term areal density road map that extends to 10 terabytes per disk, which we expect to deliver early in the next decade.

We continue to operate in an exceptionally strong demand environment, particularly within the data center end markets. In the December quarter, we saw sustained demand growth for our high-capacity nearline drives across global cloud data centers as well as continued improvement from the enterprise edge. Based on our build-to-order pipeline, we anticipate these positive demand trends will continue for some time. Our nearline capacity is fully allocated through calendar year 2026, and we expect to begin accepting orders for the first half of calendar year 2027 in the coming months. Further out, demand visibility is strengthening based on the long-term agreements in place with major cloud customers through calendar '27, and multiple cloud customers are discussing their demand growth projections for calendar '28, underscoring that supply assurance remains their highest priority.

In the December quarter, our average nearline drive capacities rose by 22% year-over-year, approaching 23 terabytes per drive, with those sold to cloud customers averaging significantly higher. Revenue per terabyte sold has remained relatively stable, reflecting the effectiveness of our pricing strategy. Video applications continue to drive significant demand for hard drives, with platforms like YouTube witnessing 20 million video uploads daily, up from just 2 million 3 years ago. Agentic AI, which relies on persistent access to large volumes of historic data, is another promising driver of sustained data growth. Hard drives anchor the mass-capacity data tier that stores the vast majority of exabytes — from checkpoint data sets used to train and maintain model integrity to vector databases that provide the context necessary for accurate inference results and agentic AI performance.

HAMR is a proven technology with large volumes of drives running in cloud production environments for more than 3 quarters now. We are systematically ramping our Mozaic 3 HAMR products to qualified customers, and Mozaic 3 is now qualified with all major U.S. CSP customers and remains on track to have all global CSPs qualified within the first half of calendar 2026. Additionally, qualifications of our second-generation Mozaic 4 products are progressing well. We expect to begin the ramp of Mozaic 4 later this quarter, with multiple CSPs qualified in the coming months in line with our plans. We continue to set the pace for the industry, recently demonstrating 7 terabytes-per-disk capability in our labs. I'll now turn the call over to Gianluca to cover our results in greater detail.

Gianluca Romano (CFO, Seagate Technology): Thank you, Dave. Seagate delivered another quarter of strong year-over-year revenue growth and set new record profitability metrics in the December quarter, underscoring the durability of data center demand trends. Additionally, we strengthened our financial position by retiring $500 million in gross debt and generating over $600 million in free cash flow, marking the highest level in 8 years. December quarter revenue came in at $2.83 billion, up 7% sequentially and up 22% year-over-year. We achieved non-GAAP gross margin of 42.2%, up 210 basis points sequentially, and we expanded non-GAAP operating margin by 290 basis points sequentially to 31.9%. Our resulting non-GAAP EPS was $3.11, up 19% quarter-over-quarter.

We shipped 190 exabytes in the December quarter, up 26% year-over-year, while keeping overall unit capacity relatively flat. The data center market accounted for 87% of our shipment volume, supported by ongoing demand momentum from global cloud customers and sequential growth across the enterprise OEM markets. We shipped 165 exabytes in the data center market, up 4% sequentially and 31% year-over-year. Data center revenue grew at roughly the same pace, totaling $2.2 billion for the quarter, up 5% sequentially and 28% year-over-year. Average cloud nearline capacity increased to nearly 26 terabytes in the December quarter and will continue to grow with the ramp of HAMR-based Mozaic products. The edge IoT market made up the remaining 21% of revenue at $601 million, supported by anticipated seasonal improvement for consumer products in the VIA client market.

Non-GAAP gross profit increased to $1.2 billion, up 14% quarter-over-quarter and 44% compared with the prior-year period, significantly outpacing revenue growth. Non-GAAP gross margin expanded to 42.2% in the December quarter, up from 40.1% in the prior period. Non-GAAP operating expenses were $290 million, relatively flat quarter-over-quarter and in line with our expectations. Operating expense as a percentage of revenue declined to 10.3%, rapidly trending toward our long-term target of 10%. The combination of strong top-line growth and significant financial leverage drove an 18% sequential improvement in non-GAAP operating profit to $901 million, almost 32% of revenue.

We grew non-GAAP net income to $702 million with corresponding non-GAAP EPS of $3.11 per share based on tax expenses of $129 million and a diluted share count of approximately 226 million shares. Turning now to cash flow and the balance sheet. We invested $116 million in capital expenditures for the December quarter, or roughly 4% of revenue. We anticipate capital expenditures for fiscal year 2026 to be inside our target range of 4% to 6% of revenue. Free cash flow generation was strong at $607 million, up 42% from the prior quarter. Cash and cash equivalents totaled just over $1 billion at the end of the December quarter, with ample liquidity of $2.3 billion including our undrawn revolving credit facility. During the December quarter, we returned $154 million to shareholders through dividends. We retired approximately $500 million of exchangeable senior notes due 2028, which serves to limit further dilutive impact. Our resulting gross debt balance was approximately $4.5 billion exiting the quarter. Net leverage ratio improved to 1.1x based on adjusted EBITDA of $962 million for the December quarter, up 16% quarter-over-quarter and up 63% year-on-year.

Turning now to the March quarter outlook. We expect data center demand will more than offset typical March quarter seasonality in the edge IoT markets. We expect March quarter revenue to be in the range of $2.9 billion, plus or minus $100 million, which represents a 34% year-over-year improvement as a midpoint. Non-GAAP operating expenses are expected to be approximately $290 million. Based on the midpoint of our revenue guidance, non-GAAP operating margin is expected to approach the mid-30% range. Non-GAAP EPS is expected to be $3.40 plus or minus $0.20, based on a tax rate of about 16% and non-GAAP diluted share count of 230 million shares. Based on our current outlook, we expect to deliver sequential improvement to both the top and bottom line throughout calendar 2026. Operator, let's open the call up for questions.

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Questions & Answers

C.J. Muse (Cantor Fitzgerald): Given the supply-demand dynamics, you're obviously in the catbird seat. Can you give a framework for the incremental gross margins we should model from here, and is there a world where pricing could flat or even move positive year-over-year?

William (Dave) Mosley (Chair and CEO): Pricing will be dictated by the demand, and right now the demand is really strong. As we roll through into '27 and '28, as we bring more exabytes online through aggressive product transitions, flat to slightly up is certainly possible, and that's the way we're managing it. The value proposition of the new drives as they go up 5, 10 terabytes at a time is pretty strong.

Gianluca Romano (CFO): On the gross margin, we are executing very well, executing a little bit better than what we discussed at our Investor Day, where we presented a model with a 50% incremental margin above $2.6 billion of revenue. We have done better every quarter, and the models cover over a longer period of time now — 2, 3 years, not 2 or 3 quarters.

Wamsi Mohan (Bank of America): Can you bridge the drivers between mix and price, and why can't pricing be a lot higher just given the tightness in the supply-demand environment?

William (Dave) Mosley (Chair and CEO): It gets into how persistent the demand is going to be. People are starting to say, if I can't get it now, I'll plan next year better and the following year better. Supply has risen quite a bit in the last year, but I think demand is still pretty strong and will stay strong for quite some time. Through these product transitions, they know that's how they get more exabytes.

Gianluca Romano (CFO): For the rest of the calendar year, we expect revenue and profitability to continue to improve sequentially every quarter. We are not implying in any way that this trend is changing — it's actually getting better somehow.

Erik Woodring (Morgan Stanley): You pointed to a mid-20% exabyte growth CAGR at your Analyst Day. Where do you think supply growth can land this calendar year, and does the HAMR crossover point later this year accelerate the pace of exabyte growth?

William (Dave) Mosley (Chair and CEO): We are planning to transition to 4 terabytes per platter fairly aggressively, but we were fairly tight all throughout manufacturing, so it will be a fairly prescriptive ramp. It won't be as fast as maybe some ramps in the past, but it will be very profitable. I'm very optimistic that the 4-terabyte-per-platter product is a very strong product.

Asiya Merchant (Citi): You gave projections on HAMR for fiscal '26 and even fiscal '27. Can you talk about upside to achieving those targets and the blended cost reductions, especially as you ramp HAMR with Mozaic 4?

Gianluca Romano (CFO): We are very happy with the transition to HAMR. We qualified the last big cloud service provider in the U.S., and we have qualified 6 out of 8 of the top cloud service providers. We are now qualifying the new 4-terabyte-per-disk product to 40 terabytes per drive. When we start ramping high volume of the 40-terabyte drive, that will drive a fairly important reduction in cost per terabyte and be a good contributor to further increase our gross margin.

Karl Ackerman (BNP Paribas): What portion of your LTAs for overall nearline HDD capacity has fixed or multi-quarter pricing agreements, and as these LTAs roll off through 2026, will new agreements be locked in at higher values?

William (Dave) Mosley (Chair and CEO): As we roll off, somebody might have been qualified on a 2.4-terabyte-per-platter product, and they might be qualifying a 3.2 or even a 4-terabyte-per-platter product as we roll forward. We change the pricing dynamic there based on the demand and our available supply. '26 is fairly booked; to the extent that we can out-execute our plan, we can do better than planned. Other than that, it's fairly predictable in '26, and we're looking to start '27 the same way.

Vijay Rakesh (Mizuho): Should the HAMR ramp in the March quarter drive a much better gross margin profile, and how should we see margins improve as HAMR ramps?

Gianluca Romano (CFO): The ramp of HAMR is included in our guidance, and our guidance is indicating a fairly good improvement in gross margin again. For the rest of the calendar year, we expect both revenue and profitability to improve sequentially, and part of that is coming from additional HAMR products.

Operator: This concludes our question-and-answer session. I would like to turn the conference back over to management for any closing remarks.

William (Dave) Mosley (Chair and CEO): Thank you, and thanks to everyone for joining us on the call. The Seagate team is executing very well, delivering on our financial targets, advancing our areal density roadmap, and successfully qualifying customers on our HAMR-based Mozaic products to address the sustained and growing demand for data storage. We believe this foundation creates a compelling long-term value proposition for the company, our customers, and our shareholders. Thank you.

Operator: The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.