Statements in these posted remarks that relate to future results and events, and other forward-looking statements in these remarks, are based on Western Digital Corporation’s current expectations. Actual results in future periods may differ materially from those currently expected or desired because of a number of risks and uncertainties. These risk factors include:
- the impact of continued uncertainty and volatility in global economic conditions;
- supply and demand conditions in the hard drive industry;
- actions by competitors;
- unexpected advances in competing technologies;
- uncertainties related to the development and introduction of products based on new technologies and expansion into new data storage markets;
- business conditions and growth in the various hard drive markets; pricing trends and fluctuations in average selling prices;
- changes in the availability and cost of commodity materials and specialized product components that WD does not make internally; and
- other factors listed in our periodic SEC filings and on this website in Risk Factors.
Robert Blair - Investor Relations - Western Digital
I want to mention that we will be making forward-looking statements in our comments and in response to your questions during this call concerning: the immediate accretion and other benefits expected from the transaction announced today, the expected timing of the completion of the transaction, expectations concerning regulatory approvals and management’s anticipated plans and strategies for the combined company. These forward-looking statements are based on management’s current expectations and are subject to risks and uncertainties that could cause actual results to differ materially, including those identified in the Form 8-K and press release we filed today with the SEC and the additional risks detailed in WD’s filings with the SEC, including WD’s 10-Q filed with the SEC on January 28, 2011. These statements speak only as of today and we undertake no obligation to update the forward-looking statements to reflect subsequent events or circumstances.
In addition, references will be made during this call to estimates of non-GAAP financial measures that give effect to the transaction. Please note that these non-GAAP financial measures exclude acquisition-related expenses, restructuring charges and amortization of intangibles that we expect to incur in connection with the transaction and following the closing of the transaction.
Because these items will not be known to us until on or after the closing of the transaction, we are unable to provide information about, or a reconciliation to, the most directly comparable GAAP financial measures. The impact of these excluded items will cause the estimated non-GAAP financial measures to differ materially from the comparable GAAP financial measures.
Finally, I want to point out that this conference will focus exclusively on today’s announcement and not include remarks on the current quarter or outlook.
John Coyne - President & Chief Executive Officer - Western Digital
Good morning and thank you for joining us. With me today are Tim Leyden, COO, and Wolfgang Nickl, CFO. We are very pleased to announce that Western Digital has signed a definitive agreement to acquire Hitachi Global Storage Technologies from Hitachi Ltd. Upon completion of the acquisition, Steve Milligan, president and CEO of HGST, will join the WD senior leadership team as President. Steve is also with us here today. Each of us will say a few words before we respond to questions.
I am very excited about today’s announcement as it represents the next chapter in the strategic evolution of Western Digital. About 10 years ago, we looked at the industry landscape, and it was clear that product breadth, scale, and vertical integration would be critically important in order to deliver compelling customer value in a growing and highly competitive industry. At that time, we had none of these attributes. In the ensuing years, we acquired and successfully integrated in heads and media and we expanded beyond our desktop roots into the consumer electronics, Branded, near-line enterprise, mobile, and solid state markets. WD’s consistent execution to this strategic plan has earned us strong customer preference in our served markets, resulting in growth and profitability that have consistently outpaced the industry.
More recently, we have been studying how to extend our track record of sustained profitable growth, remain true to the strategic direction of the company in providing superior value to customers, while leveraging our healthy cash balance. The outcome of this process led us to the next step in our evolution announced today, the opportunity to acquire HGST and to continue our journey of sustained profitable growth for WD.
We now have opportunity to realize a series of very significant long term benefits for our customers, employees, shareholders, suppliers and the communities in which we operate.
We anticipate the acquisition will close in the September quarter and we believe that it will be accretive immediately upon closing on a non-GAAP basis. While history would indicate that significant share losses have occurred in the wake of previous hard drive industry consolidations and the risk is certainly there that customers would seek to rebalance their awards of business, it is our intent to work very hard now and in the future to deliver superior value to customers so that they will continue to reward us with their business.
This is a unique development in the 55-year history of the hard drive industry in that it combines the resources of two of the world’s most successful and most profitable hard drive companies.
I would also point out that both management teams involved in this transaction have strong integration track records: WD with our successful integration of several acquisitions over the last eight years including Read-Rite, and Komag, and HGST with its successful turnaround of the combined hard drive operations of Hitachi and IBM.
This is a great time in the industry for this transaction to take place: digital content continues to grow, applications continue to proliferate, and Internet bandwidth is expanding¾all of this driving unprecedented demand for digital storage of content, both locally and in the cloud. We believe this combination greatly enhances our ability to define, develop and deliver an increasing diversity of storage devices connected directly to PCs and edge devices and the centralized cloud infrastructure. Hard drives continue to be the preferred choice for high capacity storage today and we believe for the foreseeable future. This is the fundamental rationale for the acquisition we announced today and it places WD at the forefront of a tremendous opportunity to be the leader across all market segments addressed by rotating magnetic storage. Meanwhile, the combination of resources with HGST will provide a strong base to address incremental opportunities for WD, utilizing other forms of storage such as solid state and hybrid drives in the vast ecosystem supporting the growth in digital content.
In his remarks, Tim will address the synergies we believe this acquisition will achieve and Wolfgang will cover the financial details of the transaction and provide a first look at where we see our business model evolving post acquisition.
I will now turn the call over to Steve Milligan, whom we look forward to welcoming back to WD, and who will share his thoughts on today’s news.
Thank you for joining us this morning. We look forward to keeping you informed in the months ahead.
Steve Milligan - President and Chief Executive Officer - Hitachi Global Storage Systems
This is a historic day for Hitachi Global Storage Technologies and our constituents--our customers, suppliers, employees, and our shareholder--Hitachi Ltd.
We have devoted substantial energy at HGST over the last several years focusing on creating value for our customers. Our employees have worked tirelessly to cultivate and build that value day-in and day-out. This has included a relentless focus on the key attributes that produce customer satisfaction in this competitive business--quality, reliability, outstanding technology, and predictable supply. The result has been strong customer satisfaction, increasing market share and improving financial performance.
With customer satisfaction as our overriding principle, we re-energized our heritage of strong technology capabilities, a rich patent portfolio and world-class R&D resources. I am proud of what the Hitachi GST team has accomplished. The realization of this transaction is a testament to the extraordinary work demonstrated by the HGST team. Together – in combination with our future colleagues at WD--we look forward to building an extraordinary organization that will drive continued value for our customers, employees, suppliers and shareholders. Accordingly, we embrace this combination.
This will bring together two industry leaders with consistent track records of strong execution and industry leading performance. While we remain fierce competitors until the deal closes, we have the potential to provide customers worldwide with the industry’s most compelling and diverse set of products and services across a full range of market segments.
In evaluating this opportunity, we concluded that becoming a part of a bigger, even stronger WD was the most compelling proposition to create additional value for our customers, shareholders and employees around the globe. From the standpoint of preserving and building on the franchise that HGST has created, we strongly believe this is the most effective path to take and an excellent fit.
I would echo John’s observation that this combination is unique in the hard drive industry. We are both strong players and this creates a great opportunity for us to combine the best talent from our two industry-leading companies. Our combined talent will allow us to address the wealth of opportunities presented by our customers and the broader storage market.
I believe this combination provides for a winning team and I look forward to rejoining the WD senior management team. I will now turn the call over to Tim Leyden.
Tim Leyden - Chief Operating Officer - Western Digital
With this transaction today, WD is acquiring a well-run company and we are very eager to monetize the synergies that we believe will result from the combination of HGST's resources and capabilities and the complementary strengths of WD. While we do not underestimate the greater challenges of a horizontal integration when compared to our previous vertical integration successes, we are energized by the benefits that we believe will accrue to all our stakeholders from a successful combination and we are committed to making them a reality in as short a timeframe as possible.
As independent companies over the last several years, we have each created value for our respective customers, employees, suppliers and investors through the provision of innovative, high-quality and affordable high-technology products. In addition to that, each company’s emphasis on customer satisfaction and reliability of supply is a great foundation on which we can build our future integration.
I would like to spend a few moments highlighting the key synergies that we believe make this such a compelling combination as there is a remarkable amount of complementary capability here:
- Our geographic market coverage and customer and segment strengths augment each other and create a great fit. HGST's strength in the traditional enterprise market and WD’s leadership in Branded Products are but two specific examples of this. The combination of our sales and marketing resources will strengthen our ability to address emerging market opportunities—from the perspective of geographies, products, customers, channels and segments.
- With the hard drive industry continuing to mature, the importance of scale in driving cost savings cannot be overemphasized. Many of our manufacturing and design locations are conveniently adjacent which will enable a continuation of our tight command and control structure and speed in decision-making—both hallmarks of our success at WD. At the same time, HGST’s manufacturing locations in China and the Philippines will provide us with our first manufacturing presence in these key markets. The blending of our respective head and media capabilities will also play to each other’s strengths. With the combined entities, we will be able to optimize our capital investments as we improve the efficiency of our respective asset bases, reduce operating expenses and increase our competitiveness.
- After the combination of our two entities, we will have the hard drive industry’s broadest product portfolio across the mobile, desktop, enterprise, consumer electronics, branded and solid state drive markets—providing a tremendous value to our customer base.
- Perhaps most powerfully, the pooling of our intellectual property, R&D and engineering capabilities will provide a very strong technological foundation. This will enable us to pursue product portfolio expansion at a faster pace.
In summary, there is a treasure trove of opportunity from an operations perspective in this combination of great companies and we are motivated and poised to realize these benefits upon closure of the transaction. Wolfgang will now discuss the financial aspects of the transaction.
Wolfgang Nickl - Senior VP Finance & Chief Financial Officer - Western Digital
I would like to refer you to the Form 8-K that was filed today, which summarizes the key terms of the acquisition. We have also posted an information sheet to the Investor Relations section of our website that summarizes further aspects of this business combination.
During my remarks, I will cover the following topics:
- WD’s long-term business model
- Opportunities for value creation
- Financing of the acquisition, and
- The expected duration of the closing process
Upon completion of the integration, WD’s business model will change, reflecting the new scale, cost structure and product breadth of the business. Excluding the impact of acquisition-related expenses, restructuring charges and amortization of intangibles, we expect the combined business model on a non-GAAP basis to be as follows:
- Gross margin of between 19% and 24%, up 100 bps from the current model;
- Operating expenses of between 9% and 10% of revenue;
- A book tax rate of between 7% and 10% of pre-tax income, up 100 bps from our current model;
- Capital expenditures of between 7% and 8% of revenue, after the combined existing assets are utilized and optimized;
We expect a cash conversion cycle of between 4 and 8 days.
We expect to be operating in this new business model within 6 months after closing the transaction.
We are very excited about the potential for value creation resulting from the combination of our two successful companies.
The value will be realized in several areas:
Together WD and HGST shipped 82.5 million hard drives in the December quarter and generated $4.0 billion of revenue.
History would suggest that, beginning immediately post announcement, both companies could lose some share as customers adjust their purchasing decisions according to their sourcing models. Let me explain how WD will address this challenge: Our posture prior to close of the transaction will be the same as it has always been, which is to continue to grow our business profitably using WD’s unique product, cost and service capabilities. Post close, our approach will remain unchanged, and each of those capabilities will be significantly enhanced. We believe that the combined company will deliver the best value proposition in the industry, with a compelling, high quality product portfolio, enhanced competitiveness enabled by our increased scale and cost synergies and therefore an even stronger ability to provide superior value to our customers.
Separately, we are each spending about $240 million per quarter in Opex. After we complete the integration, we expect combined operating expenses on a non-GAAP basis to be between 9% and 10% of revenue, enabling an increased emphasis on R&D spending both in fundamental technology and new product development and in customer support—while still being consistent with the highly efficient model we have run for years before this acquisition.
The combination will provide some immediate capex benefits stemming from deferral of previous capital spending plans as we grow into existing brick and mortar capacity.
We believe there will be significant product and component cost savings resulting from economies of scale relative to manufacturing and procurement.
Cash restructuring and related costs are expected to total about $300 million.
We expect the transaction will be immediately accretive to earnings per share on a non-GAAP basis, which excludes acquisition related expenses, restructuring charges and amortization of intangibles.
The consideration transferred to Hitachi, Ltd. will consist of $3.5 billion of cash subject to certain adjustments and 25 million shares of newly issued WD common stock. The cash portion will be funded through a combination of existing cash and new, committed debt. The new debt will likely be about $2.5 billion, consisting of a $2 billion term loan and a $500 million revolving line of credit. The term loan will likely have a 5-year maturity.
The 25 million shares will be subject to a 1 year lock-up provision. We will also be assuming the unvested portion of HGST’s equity awards by converting them into equivalent value WD awards.
We assume that the $350 million balance remaining on our existing term loan will be paid off as we obtain new debt financing. Also, we are not taking on any of HGST’s debt in this transaction.
We will continue our current operating philosophy, which is to maintain sufficient cash and borrowing capacity to enable flexibility from an operational and strategic investment perspective. As a reminder, our remaining, board approved stock buy-back authorization is $416 million.
The business combination is subject to various regulatory approvals around the world. We anticipate this process could take anywhere from 4 to 12 months. However, our integration plans will be designed under the assumption of a close date in the September quarter, and we will work aggressively towards that goal. We have a high confidence level that we will receive all the required regulatory approvals, reflected in our agreement with Hitachi, Ltd. which provides for a reverse break-up fee of $250 million.