EMC's Data Domain deal changes Quantum future

Quantum's first quarter 2010 revenues show a continuation of financial pain and determined effort, but there is some reward, despite the clouds gathering over the tie-up with EMC.

Laat year EMC licensed Quantum's DXi deduplication technology for use in its Disk Library products. It also partnered with Dell so that Dell can sell a DXi-based de-dupe product, the DL1500. Quantum had hopes of good DXi license revenues from these deals but EMC has just bought Data Domain, the market-leader in such deduplication products, putting these revenues at risk.

Quantum earned revenues of $160m in the quarter, depressingly down 28 per cent on the same quarter last year, and down 4.8 per cent on the preceding quarter. It said there were greater than expected declines in branded tape revenue - a not uncommon refrain - and disappointing sales of disk-based products and software. The DXi deduplication products are not taking off fast enough to rescue Quantum from revenue shrinkage.

It's becoming a declining revenue business, as tape-based revenues continually fall faster than disk-based ones grow. Quantum's fortunes have been held back by the drag of the tape business, debt and operating expenses, which are providing more inertia than the disk business can overcome. The result has been a series of losses - until now.

There has now been a near-stunning reversal, with Quantum pulling $5m of net income out of the lowered revenue. That contrasts with a $14m loss a year ago and a £10m loss in the previous quarter. Gross margin has risen from 33.7 per cent a year ago to 38.4 per cent now, as the company shifts sales, successfully, to higher-margin products, and lowers its manufacturing costs. CFO John Gacek said in the earnings call: "Operating expenses were $53m, down $21m or 29 per cent from Q1 of fiscal ’09."

It has paid off a lot of debt too, with Gacek saying that, over the past twelve months: "Our debt balance went from $383 million to $278 million total debt, decreasing to $256 at July 7. ... we have refinanced $138 million of our $160 million convertible debt as of July 1, so while we may have lower revenues than we had a year ago, we are a much healthier company with a better financial model and a much better balance sheet."

However the DXi business is looking spotty. Gacek said: "On a year-over-year comparison, we had an increase in license revenue from EMC, (but) a decline in branded DXi revenue... a decrease in our first generation, low and mid-range products, the DXi3500 and 5500, and a decline in the DXi7500." Some of this was laid at the EMC-Data Domain acquisition door, with that event stopping Quantum customers buying DXi gear and EMC ones buying licensed DXi technology-using product.

Quantum and EMC

The hopes of what could have provided a marked acceleration in DXi revenues, the EMC link, and consequent Dell one, are looking to have been dashed as EMC, that de-dupe bigamist, gets a third de-dupe technology with its Data Domain acquisition. Gacek thinks that EMC DXi license revenues won't improve, saying: "We expect that quarterly revenue... over the next three quarters will be similar in magnitude to what we recognized in Q1. And based on what we know today, we think that it will begin a decline in Q1 of fiscal 2011."

So, in a year's time, EMC will start delivering less DXi license revenue to Quantum. Gacek declined to comment on EMC's product roadmap, but he must have a reason for expecting this dropping off of DXi revenues.

Quantum CEO Rick Belluzzo talked about the implications of this: "EMC’s acquisition of Data Domain clearly changes the direction that we were headed... building a growth platform centered around deduplication and replication is the key element of our strategy that holds the most promise and represents our largest challenge. While we expect a continued revenue stream from EMC, it is very clear that their focus will rapidly shift to the Data Domain technology. "

He reckons that the dedupe market is booming: "Market data suggests that the market for target based deduplication systems will more than triple between 2008 and 2011. This is a very significant opportunity (for Quantum)... our de-dupe technology has been deployed in approximately 2,000 systems worldwide. And we have the ability to leverage it beyond just backup through StorNext... we see StorNext as a key foundation to our technology platform for deduplication systems."

StorNext is software providing a shared file system for SAN users, with particular use by customers with large data sets.

Belluzzo said: "We are already shifting our go-to-market focus to put a greater emphasis on building our branded DXi business in the areas where we have particular strength. For example in VTL environments... We also have substantial advantage in terms of our installed base including more than 70,000 branded tape systems and 30,000 StorNext file systems... Our intention now is to compete by leveraging our strengths, particularly relative to Data Domain technology."

Quantum will be looking for new DXi partners, believing that EMC's Data Domain buy opens doors for it. Gacek added a little bit of colour here: "We’re in discussions with... the group of people who don’t really have de-dupe solutions about how to use our software, primarily our software not hardware around their particular hardware offering."

New products

Gacek said Quantum will launch: "a new mid-range disk product this calendar year that will be a very good product for our branded channel partners. This will be an important product launch for the company."

Belluzzo expanded on this, saying it will: "significantly improve our mid-range NAS position and strengthen our channel business. In addition to this, the EMC Data Domain transaction does create some disruption among VARs which makes this launch ideal. We’ve been working on this product for over a year and we intend to launch this in the most aggressive manner possible... (This) mid-range, channel based, higher velocity NAS product is really the biggest opportunity we have. And we’re very, very focused on that and have been for a year."

He talked of a DXi software release, saying: "upcoming is replication where we intend to make a big improvement... included in this release also is a big focus on NAS performance because we’ve been very focused on VTL. That was the initial design of the product, but we know that the NAS market is larger, has more growth potential, and so we put a big effort into that."

Beluzzo also talked of a new tape product: "We will introduce a new platform in the lower end of the mid-range that will improve our competitiveness, and we will aggressively pursue campaigns to replace Sun Storage Tek end customers, and with channel partners."

Quantum's strategy then is to make as much money as it can from a still substantial but declining tape business, boost DXi-based HW and licence revenues - with a NAS and replication focus - and add deduplication to the StorNext products. It's not seeing any rocket-like revenue growth in its future, instead hoping for the steady emergence of a sustainable and profitable disk, deduplication and software business out from under its tape heritage and debt burden.

The outlook for the next quarter is $160 to $170 million, quite a large range this, plus a slight increase in gross margin and another net income rise. ®