Tonya Chin - IR Dheeraj Pandey - CEO Duston Williams - CFO

Jayson Noland - Baird Matt Hedberg - RBC Capital Markets Andrew Nowinski - Piper Jaffray Aaron Rakers - Wells Fargo Jason Ader - William Blair Simon Leopold - Raymond James Alex Kurtz - KeyBanc Capital Markets Wamsi Mohan - Bank of America Merrill Lynch Katy Huberty - Morgan Stanley

Good afternoon. My name is Christine and I will be your conference operator today. At this time, I would like to welcome everyone to the Nutanix Q1 2018 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. I will now turn the call over to Tonya Chin, Investor Relations.

Thank you. Good afternoon and welcome to today's conference call to discuss the results of our first quarter of fiscal 2018. This call is also being broadcast live over the web and can be accessed in the Investor Relations section of the Nutanix website. Joining me today are Dheeraj Pandey, Nutanix's CEO; and Duston Williams, Nutanix's CFO. After the market closed today, Nutanix issued a press release announcing the financial results for its first quarter and fiscal year of 2018. If you'd like a copy of the release, you can find in the Press Releases' section of the Company's website. We would like to remind you that during today's call management may make forward-looking statements within the meaning of the Safe Harbor provisions of federal securities laws, regarding the Company's anticipated future revenue, gross margin, operating expenses, net loss, loss per share, free cash flow, business plans and objective, product sales, plans and timing for, and the impact of our transition to focus more on software only sales, expectations regarding product features, technology that is under development, competitive and industry dynamics, new strategic partnership, changes in sales productivity, expectations regarding increasing software sales, future pricing of certain components of our solution, our plans regarding how we will report the software content of our business, potential market opportunities and other financial and business related information. These forward-looking statements involve a number of risks and uncertainties, some of which are beyond our control, which could cause actual results to differ materially and adversely from those anticipated by these statements. These forward-looking statements apply as of today and you should not rely on them as representing our views in the future. We undertake no obligation to update these statements after the call. For a more detailed description of these risks and uncertainties, please refer to our quarterly report on Form 10-Q for the third quarter of fiscal 2017 filed with the SEC on June 2, 2017, our Annual Report on Form 10-K filed with the SEC on September 18, 2017 as well as our earnings release posted a few minutes ago on our website. Copies of these documents may be obtained from the SEC or by visiting the Investor Relations section of our website. Also please note that unless otherwise specifically referenced, all financial measures we use on this call today are expressed on a non-GAAP basis and have been adjusted to exclude certain charges. We have provided reconciliations of these non-GAAP financial measures to GAAP financial measures in the Investor Relations section of our website and in our earnings press release. As a reminder, all results included in today's call and press release, are using the newly adopted revenue standard ASC 606. Finally, Nutanix plans to attend the Raymond James 2017 Technology Investors Conference in New York City on December 4th, and the Wells Fargo Tech Summit in Deer Valley, Utah on December 6th. We hope to see you there. Now, I'll turn the call over to Dheeraj. Dheeraj?

Thank you, Tonya. Hi, everyone. Thank you for joining. Q1 marked another strong quarter for Nutanix with billings, revenue, gross margin and EPS performance better than our guidance and consensus. Before getting into our Q1 results, I would like to start the call by discussing the business transformation within Nutanix. You might have heard from us that we are increasingly taking a software-centric approach to go-to-market and financial reporting. I want to take this opportunity to zoom out and talk about the why behind our packaging and distribution strategy of the last six years, and the somewhat obvious why of the future of software strategy. I borrow from my Annual Shareholder Letter to set the context. Digitization or virtualization as we call it has been an unstoppable phenomenon in computing. We saw this with music, photography, shopping carts, and maps, as they all converged into pure software and as digital construct in our consumer lives. We brought that foresight to enterprise storages in computer, and by doing so, we improved machine productivity by bringing data closer to applications and also human productivity by breaking down artificial walls in the IT departments. By standardizing on commodity hardware and a common operating system, we delivered economies of scale that were unprecedented in enterprise data centers. But none of this would have been possible, if we hadn’t obsessively focused on product design. The elegance of Nutanix's products is in their simplicity and in our ability to bring a consumer great experience to enterprise grade systems. We are now on a path to digitizing networking, security and effectively the entire data center. This architecture of an undifferentiated hardware, running software services, that then bring all the differentiation, is the only way to operate a cloud if the enterprise wants to stay in the business of computing. In 2011 and 2012, software-defined anything was too abstract for our customers to put their arms around. So, the vendors were conflicted because they sold billions of dollars worth of hardware equipment that we as disruptors were digitizing into pure software. Our only route to market was to taken full of our own destiny. The Nutanix appliance was born. We now had an iPhone-like design patent that people could touch and feel and the channel could sell. Customers loved us for bringing the web-scale culture then in which the white-box with the robust software, it is by a world-class customer service, was meaningfully more delightful than the current experience of stitching together vendors and insight teams that constantly finger pointed at each other. Overtime as our architecture games of clarity, we relaxed our opinion our own hardware and signed OEM relationships. We built the muscle memory on a two-half customer service. Also in the last 18 months, we signed large ELAs in pure software, some of which are hyper-scale customers running OCP-like server equipment. In the last 12 months, we ported our software to every major x86 server vendor, IBM powered microprocessor, ruggedized warfare servers and even 4x4 inch Intel mini-servers for the IoT edge. We now have a meaningful competitive advantage in being the most portable operating system built for the enterprise cloud. This kept growing our total addressable market as we ported our software to all these platforms in the last three years. A software only form factor gives us ubiquity. It also enables friction-free access to off our technology thinkers, prospects were at the top sales funnel. But the change is beyond just the product, it includes thoughtful changes to the port to cash process, sales compensation, software downloads, license management and new tools the top of the sales funnel. These changes also prepare us well as we embrace the subscription model next year with our Xi, spelled Xi Cloud services. The Company that is obsessed with an iPhone-like motive is ready to institutionalize the pure software version of its operating system, and all that without compromising customer experience and without being negligent about the boundary at which hardware and software meet. Shifting gears to product, for the past two years we've built some multiproduct portfolio. We have built our own hypervisor, AHV, which is consistently grown in market share quarter-over-quarter. We introduced AFS or software-only scale out filer to remove yet another hardware silo from enterprise datacenters. We added Prism Pro and com for operations management and model driven automation respectively. At our recent .NEXT Europe Customer Conference in Nice, France, we continued this innovation with the announcement of the Acropolis Object Storage Service, Acropolis Compute Cloud and Nutanix App Marketplace. These services which will be included with our software help our customers run a growing set of cloud needed applications. Acropolis Object Storage Service supports the growing number of applications with large unstructured data and enables application development teams to consume storage as a high performance on-demand service to similar to public cloud offerings. Complimenting object storage services is our new age rebased compute service, the Acropolis Compute Cloud. This new capability will help enable enterprise customers to economically scale compute resources to better support applications like distributed analytics workloads, large scale frontend web services, Citrix XenApp and other CPU intensive work loads. Finally on Nutanix Calm, spelled as Calm, we announced the addition of the apps marketplace, this new market place service empowers IT teams to rapidly deploy fully validated applications via self service portals, so new workloads can be deployed quickly and easily. Xi continues to be on track for a mid 2018 release. We’re making meaningful progress with Google on the go-to-market and deployments strategies around the world. On a related note, the bare-metal related service offering from the public cloud providers is a very promising breakthrough for our cloud OS, as we explore even more ubiquity for our software. Through API, automation and digital delivery bare-metal in the cloud even further commoditize a commodity server. Alliance partnerships move from business relationship to developer relationship aided by SDKs and APIs. The next few years will be exciting in our cloud OS journey, as we forge deeper alliances with new hardware partners in the cloud. At .NEXT one of our most intriguing announcements whether moved to the IoT edge will lay the foundation of our IoT edge with our 4x4 mini server form factor port and Prism Pro software. Beyond providing an invisible IoT infrastructure, we’re building an event based message back applications that manages data between the edge and the cloud core. Both objects storage in this IoT data service are early forays into building platform services for developers beyond traditional infrastructure for IT operators. Consumers cloud operators like Amazon and Facebook have leveraged the lot of open source to their competitive advantage. Similarly in the last eight years, we embraced Linux to build an elegantly simply yet enterprise-grade hypervisor and network virtualization, and also no sequel data bases to build the core metadata services of our operating system. 2018, 2019 will be years when we embrace open source, Apache Software Foundation services even further to deliver consumer grade developer building blocks in Xi. Linking these building blocks into hybrid services is our big back around the future of cloud. The true north of us is to provide a common IT experience in hybrid cloud world, as we try to blur the line between owning and renting computing. Shifting to some Q1 KPIs now, last quarter I shared the progress we have made in signing large deals. We continued our large deal momentum with 478 customers that have purchased in excess of $1 million lifetime to-date, up 74 in the first quarter, and they have collectively spent nearly $1.4 billion with us in the life time bookings. Additionally, they have 206 customers that have purchased over $2 million, up 40 from last quarter, 47 customers that have purchased over $5 million, and 16 customers that have purchased $10 million with us lifetime to-date. As we shared in the past, customers are increasingly trusting us with the most machine critical workloads. Our top three deals in Q1 were all in the federal vertical and together comprise more than $15 million in billings. In two of those engagements the customer went all in with AHV, our hypervisor choosing to standardize on our built-in hypervisor or other virtualization offerings. The first customer which is the largest revenue generating civilian agency in the federal government, selected Nutanix because of the inherent security and rapid time to value our platform provides. This customer will take advantage of our Prism Pro software edition, benefiting from reduced complexity and costs for operations and management. The other customer, a unit within the United States Armed Forces, which handles day-to-day operations around the globe, will use the Nutanix platform to support facilities that provide recreational and educational opportunities to the children and youth soldiers and U.S. Armed Forces civilians stationed bases in both the U.S. and abroad. This quarter we also saw great momentum in the healthcare vertical with seven deals greater than $1 million. One such deal was with Baylor Scott & White Health, another existing customer that is using our platform to host Epic, its electronic health record system, and powers its DNA sequencing environment. In fact during the Nutanix solution, Baylor Scott & White Health is being able to process DNA sequencing results five times faster and at greater volume than the previous solution. Another great used case in the health services basis with an S&P 500 company that operates one of the largest clinical laboratory networks in the world. The Company is replacing its legacy of three tier infrastructure with Nutanix, using our platform to run a host service in workloads, including powering the lab tests for a popular privately held personal genomics and biotechnology company. Outside of the healthcare and several verticals, a leading entertainment provider with 17 facilities including casinos, hotels and short theaters, uses our platform to support its value gaining management software. To give some context on that workload, when the gaming management system goes down, the casino stops running and customers leave. It's the Company's moneymaker and they trust this machine for critical applications in Nutanix. Another customer, an international group active in the design, manufacturing and sale of watches, jewelry and watch components, which had previously committed to a VMO centric strategy, selected our platform because of its easy to use and simplified management console. In this quarter, we continue to see customers refocusing their infrastructure strategies away from public cloud only ambitions. One such customer a leading provider of device insurance, warranty and support services for cell phones, consumer electronics and home appliances, began adding a variety of machine-critical workloads, to our path from after a yearlong focus and evaluating and testing AWS. Cost service level agreements and security concerns were among the contributing factors for the shift, this all robust demand for our software up sales including Prism Pro and our ultimate software license. In Q1, Prism Pro adoption increased by 40% quarter-over-quarter. We also had 16 Prism Pro deals in access of $100,000 including the previously mentioned largest revenue generating civilian agency in the federal government, which is one of our largest deal, this quarter. Another customer of fortune 100 multinational company that produces a variety of commercial engineering, aerospace and consumer products continues to standardize the Nutanixs software, including adding Prism Pro to their 300 plus Nutanix nodes, so that they can execute proactive capacity planning to lower operational costs and reduced risk. This customer continues to invest in and rely on the Nutanix enterprise cloud platform across their enterprise, inclusive of mission-critical applications such as ERP and PLM, one being particular interest with the Department of Defense Agency. This software only deal coupled with our software with hardware from a partner Klas Telecom, K-L-A-S Telecom, in order to deliver a ruggedized hyper convert solution that is roughly the same size as ALI and carryon luggage. This agency plans to deploy these ruggedized Nutanix appliances across its field teams will operate the units on battery power to maintain communications and other critical applications in war zones. In closing, I'm very pleased that how the Company is evolving towards its next act. Lou Attanasio, our new Chief Revenue Officer, will play a pivotal role in a transformation to software. And he leads a growing sales force into journey that blurs the lines between owning and renting computing. This now allows Sudhish Nair, our President to focus on strategic partnerships importantly Xi and its developer-oriented services and our largest to the large customers. I sincerely believe that we now have a green team to do justice to our mission. With that, I'll turn the call over to Duston to discuss our strong Q1 financial performance. Duston?

Thank you, Dheeraj. I'm pleased that our Q1 results came in a bit better than expected primarily driven by a solid quarter in our federal vertical, and as a reminder, we adopted our ASC 606 beginning this quarter and our results are reported under this new method of revenue recognition. Revenue for the fourth quarter was $276 million growing 46% from a year ago and up 9% from the previous quarter. We built $315 million in the quarter representing a 32% increase from a year ago and a 9% increase from Q4. Our performance in our geographic regions were essentially in line with what we would expect for the first quarter of our fiscal year. As expected, our OEM business although had approximately 10% of bookings, waned a bit from the very high level we experienced in Q4. On the upside, we saw a good performance in our federal business as well as continued strength in APAC region. The strength was somewhat offset by seasonal declines in our North America commercial and EMEA businesses. Once again, we are pleased to see the number of large deals in Q1 keep pace with the strong levels we experienced in Q4. We booked 15 greater than $2 million deals in the quarter and that was consistent with our strong Q4 performance. Bookings from our international regions were 37% in Q1 '18, up from 34% in Q1 '17. Our gross margin for the quarter was 61.9% which was higher than our guidance and compares to 65.4% in the year ago quarter and 62.6% in the prior quarter. The Q1 '18 gross margins benefited by approximately 1.5% points as we purposely eliminated more than 9% of revenue attributable to our pass-through hardware revenue. Our operating expenses were 193 million below our guidance by 7 million, primarily due to timing of new hires and other personnel related expenses. Our non-GAAP net loss was 25 million or a loss of $0.16 per basic share. Before I review the balance sheet highlights and our Q2 guidance, this is a good time to take a step back for a high level discussion on how we see our business model evolving over the next several years. Today, we are software company, more specifically an enterprise cloud operating systems company, that up until now has delivered a majority of its software via its own branded appliance and recognize the associated hardware revenue. This approach based senses beginning has allowed to stand tall amongst our competitive in an emerging markets while at same time allowing us to build out of direct sales force and brand for what was early on an unknown company. It was this very same approach that yielded 60% gross margins despite our significant software content in which inadvertently describes the true nature of the Company. This left many investors wondering, if we really a software company or just another storage or appliance company. And despite our best efforts to establish Nutanix as a software company in the minds of many investors, you simply are which our margin say, you are. Going forward over time, Nutanix will emerge exactly what it is, an enterprise cloud operating systems company. In conjunction with this, investor should expect the following to occur over the next few years. First, we will begin the migration away from pass-through hardware related revenue. Beginning last quarter, we started the gradual migration related from recognizing pass-through revenue, attributed to the hardware portion of our business. Today, the hardware portion of our business is approximately 26% of our total billings. This transition will come in two parts. First, with straightforward changes that will allow us to step aside for most hardware only invoicing by enabling our legacy appliance manufactures to begin selling the NX hardware directly to our distributors. And secondly, by simply focusing on more software-only transactions, allowing our customers to them choose to run on a large number of server platforms. It is important to know that stepping aside from this pass-through hardware does not anyway infer that customers are not ordering NX appliances. To be very clear, our customers' choices and experiences will remain the same. We expect this transition to take a year or so and the result of elimination of at least 80% of our pass-through hardware related revenue. All things being equal, the direct impact of this specific change would result in significantly higher software content and significantly higher gross margins with no change to our gross and gross profit dollars. Probably, the most important point to make here is that this change will have absolutely no impact to our future growth rates of our software and support billings. That’s being the portion of our business today that represents 74% of our billings. Overtime, we would also hope to gain additional selling leverage that naturally comes from focusing on software only transactions. The next modification in our business you should expect will be a gradual shift to writable Software-as-a-Service revenue. Once our Xi Cloud service offerings take hold starting with services such as disaster recovery, we expect to see the emergence of some writable recognized Software-as-a-Service revenue. And lastly overtime, we will start to position the Company for increasing writable Software-as-a-Subscription revenue. Although not immediate and not yet quantifiable with the introduction of both our Xi Cloud services and Nutanix Calm, we believe we have the option to convert some of our perpetual and terms based software streams into writable recognized subscription software. To help incentivize and expedite this transformation, starting February 1, 2018, our fiscal Q3 '18, we will start the process of compensating our sales teams on software-only related bookings. Once the change is fully implemented sales representatives will no longer be compensated for pass-through hardware sales. To summarize, the transformation of our business will take place methodically over an extended period of time. The first phase result more perpetual in term base software as we begin to significantly reduce our pass-through hardware revenue. We then expect to see the emergency of writable services revenue followed by a gradual shift to more writable subscription revenue over time. As we start to shift away from pass-through hardware revenue, we will also take this opportunity to change how we report the software content of our business. The previous methodology had us reporting software as a percent of total booking with the software content comprised of OEM licenses, up-sell of our additional software and other miscellaneous software sales. What this methodology excluded was a significant software content attributed to the base operating system that was bundled into the appliance sale. Going forward, we will add the software content attributable to our base operating system into the total software metrics. The based operating systems is simply calculated by taking the total billions attributable to the appliance sale, less the billing of the actual cost of the hardware. As we increasingly separate ourselves from the hardware sales, the related revenue and cost of goods sold would be eliminated in equal amounts, this amount representing the actual cost of the hardware. Under this new software centric reporting, based on billings for Q1 2018, the splits of the business would be as follows; software and support 74% of total billings, and hardware 26%. It is this 26% attributable to the pass-through hardware that will mostly be eliminated overtime. We would encourage you to review the Q1 Nutanix Investor deck located in the investor relations section of the corporate website, for further details surrounding this new software-centric reporting and the associated historical breakouts. So in summary, what would Nutanix look like over the last 12 months, if we chose not to build any pass-through hardware related transaction? The resulting business would've been very interesting, basically yielding in $800 million shared software and support infrastructure company with gross margins above 80%, while at the same time being a market leader within $100 billion TAM. That's what Nutanix would have looked like over the past 12 months void of any pass-through hardware billings. This level of size, growth and gross margins compares very favorably to other software and service companies such as Splunk, Netezza, Tableau and others. I'll turn to the balance sheet for few highlights. We closed the quarter with cash and cash equivalents of 366 million, up from 349 million in Q4 DSOs on a straight average with 57 days. That was eight days lower than the 65 days reported in the prior quarter. The weighted average DSO was 27 days in Q1. We generated a 10 million of cash from operations in Q1 which was negatively impacted by 8 million of ESPP funding. We used 8 million in free cash flow during the quarter and this was also negatively impacted by the 8 million of ESPP funding. Now, onto the guidance for the second-quarter, the guidance of a non-GAAP basis is as follows: revenues to be between 280 million and 285 million, gross margins between 62.5% and 63.5%. This revenue and gross margin guidance has expected yield approximately 178 million gross profit dollars versus the current Q2 gross profit consensus of about 173 million. Operating expenses of approximately 210 million and a per share loss of $0.20 to $0.22 using the weighted average shares outstanding of approximately 161 million shares. This guidance assumes that we will eliminate approximately 12 million or 15% of our pass through hardware revenue and an equal amount of hardware cost of sales during the quarter. Without this change, we would have guided revenue to the range of 292 million to 297 million with gross margins of 60% to 61%. And lastly, for modeling purposes, we anticipate eliminating up to two thirds of all pass-through hardware revenue by the end of Q4 '18. Additionally, we have also assumed after every $5 million to $6 million reduction in pass through hardware revenue, gross margins should increase by about 80 to a 100 basis points. At this point, operator, if you could open the call up for questions that would be great. Thanks.

Thank you [Operator Instructions]. Your first question comes from the line of Jayson Noland from Baird. Your line is open.

I guess, Duston, I wanted to ask on the elimination of 80% in your pass through hardware in about a year. What has to happen over the next 12 months? I assume there is lots of negotiation with distributors to take that hardware revenue?

Yes, that has already happened in the U.S., so that's the good news. The team has done an excellent job getting those -- getting that process in place. So North America is done. We need to now go execute on it, but those agreements are now complete. And we're now off working on some international regions.

And we've spent some time on our team trying to figure out what your long-term operating model would look like, and I don’t know if you are ready to point us in any directions here. But would the profitability be pushed out a bit with more leverage in the model longer term?

Yes, we will give a full I think at the beginning of the year, we’ll have a full deep dive on the operating model and how that changes. Obviously, gross margins go up substantially. The operating margin goes up and some other things there. And I don’t think, from a cash flow perspective, there shouldn’t be any major changes there. We've been hovering plus or minus, and that's how we've been running the business from that perspective. But yes, we've been doing awful lot of work on the long-term model and things like that. So at some time, I think, probably at first quarter of the calendar year, we're anticipating of scheduling some type of probably analyst event that will give a pretty deep dive into all that.

Our next question comes from the line of Matt Hedberg from RBC Capital Markets. Your line is open.

I'm curious now, this is the second quarter in a row you guys have had really strong large deal momentum. I know you highlighted that federal vertical and particularly this quarter. Can you talk about the momentum that you’re seeing there. How do you see that large deal funnel progressing here in a software-only model? I'm sort of kind of curious about the pipeline of these larger deals.

Thanks Matt. This is Dhiraj. Definitely, we’ve seen an uptick in the last three quarters, that’s also because of the way we segmented our sales force. The focus is on global accounts and enterprise accounts strategic accounts, I should say. And a lot of the replatforming is now happening so first three, four, five years of selling, we’re going in selling in a workloads and project based spend, trying to go and exhaust the project based spend. But many of our existing customers, we talked about $474 million of those million dollar customers. They are massively strong return customers for us and we really focus hard on them and you can see that from our net promoter score as well, which is one of the big determinants of large deals and the large deal pipeline for the last three quarters and the coming quarters as well.

And then I was curious, I don’t think you guys mentioned in your prepared remarks anything about the GCP relationship. I know it's probably still early but is there any updates on the progress of that?

I talked briefly about that in my call script as well. Making good progress I think you know we are talking -- engaged with Google on the locations, like where do Nutanix's products go and you’ve identified a couple of regions, both here in the U.S. and outside the U.S. as well to make Nutanix's as a service where customers can rent as well as own us. So sometime in the middle of next year you will actually see a big update around Xi, which is a cloud service, and it's not completely dependent on Google, but that’s a big part of our overall pushes to go together as partners?

Your next question comes from the line of Andrew Nowinski from Piper Jaffray. Your line is open.

In the transition to your software model, are you assuming that most customers can do the integration work themselves between hardware and software? Or you're going to become more reliant on channel partners like CW to do the integration work for you?

It's like a pyramid, Andrew, if you think about the top of the pyramid, will be driven by global SIs, and especially as we’ve sold the software, some of which could actually go direct as well. So we’d expect the channel and the SI to come back and help utilize that, deploy them on servers on commodity servers, specific servers. In the middle of the pyramid, we expect more of the resellers to do that. We made it extremely simple to actually go and deploy Nutanix's, that’s one of the biggest values of being an appliance company, the routes because it really understood the value of the hardware, software boundary itself. So we've made a lot of those deployments one click. And the base of the pyramid could still be going through as NX. And as Dustin mentioned, it could be an NX that’s basically going through [avidity] model where we just take the order, but then the software comes to us and the hardware goes to the hardware vendor.

And I just want to say one more thing about customer success that may be just seeded a team around customer success where our technology relationship managers, we call them TRMs, who will be very active at the top of the pyramid with our largest customers and we expect to get professional services, our own professional services, as well as the EPS of our resellers and SI partners themselves for the middle of the pyramid.

And then I just have a follow up. You had a fairly big jump in percentage of notes sold with AHB this quarter, up to 28%. Are you seeing customers just getting more comfortable at the acropolis, or have there been changes on the competitive front that are prompting more customers to look at new options, such as AHB?

Yes, just on that metric there. We did continuously break, as you can see from the investor presentation there. The only thing we did make a little tweak there as you can see in that chart there is that we've now, I think, more appropriately shown this just as Annex nodes and not including the OEM business in there as you might expect. It’s heavily tilted away from AHB. So that tweaked a little bit but not substantially. And I think one of the correlations is with respect to our partnership with Citrix the VDI business went up a little this quarter, and we’ve been doing some really good with Citrix using the AHB hypervisor, and the Citrix workload.

Yes, and if we had used the exact same metric last quarter, I think it would have gone from 24 to 25; so not a substantial change there, but up no matter what.

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

Thanks for taking the questions, as well congratulations. Just looking at your slide deck and looking at slide number seven, and I can appreciate the fact that you're looking at the mix of business based on billings. But simple math, I guess, looking at an 80% plus gross margin on your software support revenue, would leave us to think about progression of gross margin into at least the 70, if not mid 70% range. So I guess the first question is, is that how we should be thinking about the overall progression of the gross margin? And then the follow up on that, I think last quarter you talked about adding $10 million of OpEx per quarter it looks like your guidance is a little bit less than that. So I'm curious of how we should think about the OpEx trajectory through the course of this year relative to your prior commentary?

On the first one and I actually gave you the metric because I wanted you guys to get this correct. You can do your own assumptions there. We gave you a couple data point, two thirds elimination by the end of the year, at the end of Q4 and then for every $5 million to $6 million that you’re going to take out of your models of hardware pass through hardware revenue. Gross margins should go up 80 to 100 basis points. So it's a pretty simple way for you to go get to that endpoint, and it's from your models obviously. But you should be able to easily do that from that perspective. On the expenses, yes, I mean we came in a little under hiring’ it wasn't intentional; we didn’t try to drive it down. We’ve still got, obviously, a lot of priorities and things like that. So we will continue to -- you’ll see expenses, so I don't think we’ll continue to be massively under. There is lot of things going on, lot of hiring and things like that.

Actually, as we focused on the under covered global accounts and the under covered enterprise accounts, because we’ve done one phase of segmentation but now we need to go back and figure out if we need to re-segment it in the coming quarters as well.

And then a quick follow up, if you could, I would be interested in comment -- your comments on the IBM relationship. And I’ll just leave the floor.

Yes. So we did GAR product couple of months ago with IBM, and you have some really good momentum on the Linux applications. You have some proof of concepts going on in very large customers, both in the U.S. and Canada and beyond as well. And we are working on the AIX product, which is one of the biggest product coverages that IBM has. And virtualizing that itself would grow the time on this whole relationship so I expect to see some news in the coming quarter or two; the product is off to a good start with the proof of concepts going on right now.

Your next question comes from the line of Jason Ader from William Blair. Your line is open.

I have a question on the -- let me see those slides -- it's number seven. You assume support and other margin of 55% for future periods. And when I look at the model, looks like the support gross margins at quite a bit higher than that. So wondering what is happening with 55%?

This includes support, it includes the small piece of professional services that we have and then some residual other COGS that we have on a quarterly basis, so nothing massively trending there. It's just all-in residual of what would be remaining there. And again, professional services is included in that support piece.

So that doesn’t include the residual pass through hardware, that's still…

Correct…

So right now, your support gross margin is in low 60s.

Yes, it covered 60 to 62 or something like that. There is some other COGS that we capture in that total, but it really is truly residuals left there. There was just some other stuff that gets bundled into there.

So today that’s in the product side…

Yes, you can argue either way. But it's residual we’ll have to go some place.

And then Dheeraj, I see the guidance if you conclude the capacity pass through of all revenues, it's very strong. So I'm assuming that with the strong federal performance, is it fair to say that you had some good backlog on the enterprise side and the commercial side?

Yes, I'll let Duston answer this one.

Yes. The backlog didn’t really surprised us for our Q1 from that perspective, so it bounces up and down and we've maintained a reasonably healthy backlog over last several quarters. So, we’ll see how it progresses here with the Q2 and obviously we have the end of the calendar year. So we will see how things play out with those efforts.

And then last one quick one from me is on the billings differential from revenue. Is that just because you had a very strong billings quarter a year-ago? How should we think about the differential going forward between billings growth and revenue growth?

Yes, I don’t think you’ll see that much difference going forward. We, about a year-ago or so, we had a little tweak to support pricing and how the mix to bill and revenue tweaked a little bit there. But I think you're seeing some residual of that, but I wouldn’t expect that you’ll see that level of delta going forward on a year-over-year basis.

Your next question comes from the line of Simon Leopold from Raymond James. Your line is open.

Just first wanted to see if we could clarify the federal -- you highlighted it was strong this quarter. If we could just get some quantification around contribution, percent of revenue from federal and where it is typically and how much of this is seasonal?

So we expected federal to be reasonably healthy, and it was pretty good. If you look at our federal business, in total on average, it averages 10% to 12% of bookings or so. And then Q1, it pops up. So we had pretty good pop up in Q1, it wasn’t quite exactly to the same percentage as last year. But the team did a great job. We had lots of large deals, as Dhiraj mentioned there; so, little bit better but not massively better.

Great and then -- go ahead.

As you can see that, obviously, the CR the continued resolution for most of the year, a lot of that budget will flush to -- at the end of their fiscal, which was September?

And I wanted to see -- you gave us, I think a number of helpful insights in terms of the software pivot of how it affects our modeling and how the analyst might. Look at the financial metrics. But I guess what I'm a little bit hazy on is your customer experience, how your customers will view Nutanix's, how they are going to interact with you? I think my worry is, are they becoming more at arms length in terms of their interaction with Nutanix's. Could you help us get a better understanding of really the interaction level and how that either does or does not change? Thank you.

It's a great question, and we think about it all the time, simply because we are paranoid about customer experience, by the way. So the first step, as Duston mentioned, is about having the same -- cash experience where they can order NX appliances and it will get split in the channel of avidity to Nutanix's and SuperMicro. So we hope to continue to keep that experience. Even if we end up selling more software than hardware as we’ll do overtime, but then the customers can come back and fulfill the hardware by going through a very similar sales process. Even today, we have more than 30% of our nodes are actually OEM nodes and we have tested, been tested in customer service, customer support and we've kept our OEM partners honest as well. So we’ve actually gone through building that muscle memory of customer support at a non-tribule number of nodes that don’t belong to an X nodes.

And I think it's really important also to really understand that absolutely zero change from what the customer sees. So that process from a customer is left and packed and exactly the same as it has been in the past.

And that being said, and obviously we want folks to buy our software and run it on like I mentioned some of our customers run into an OCP like servers; in fact, others run it on Cisco. Cisco was pretty good quarter for us. This quarter substantially jumped from last quarter. HP is also going down pretty robust path. So we have really done a good job of building the right tools all the way from installed tools, we call it foundation, we have Sizer, which is capacity planning tool. We have x-ray, which is our POC automation tools, which does a lot of the testing of the hardware upfront. We are in the process of actually pushing out our certification tool to all the partners, so that they can actually go and certified this industry in itself. So a ton of automation that we’ve actually done to make sure that the transition from hardware to software is without a lot of these negligent things that one could end up doing, and suffer with experience and not these experience but product reliability and integrity of data and things like that.

Your next question comes from the line of Mark Mercy from JP Morgan. Your line is open.

This is [indiscernible] sitting in for Mark. Great quarter, seems like a lot of moving pieces. So as you -- one question was the sales motion, and how it changes. So as you move to a software centric company, and it seems there will be a lot of changes, I don’t know if that’s changing the organization structure but definitely comp will change for the sales guys. How does the sales motion where sales guys change? Is there a learning curve to selling software versus selling the appliance, et cetera? And how confident are you that you will be able -- that we will not see a period of automation to address back to bookings in the next 12 months.

One thing that we’ve learned in the last couple of years is the segment, segment, segment, our world and our live. So if you look at the pyramid, the middle of the pyramid, which is the mid market and the base of the pyramid, which is come business, which we didn’t see much of a difference. We have been selling OEM nodes with our software for the last couple of years. Our sellers have done a pretty good job of really managing -- relatively conflicted relationships in a way that hasn’t hurt our relationship with the customer, including both sales in terms of professionals services and customer support itself. The top of the pyramid is where we expect -- especially our global account managers, who have been used selling software in their past lives as well to go and do ELAs and it could be very large ELAs that basically help re-platform our customer’s overall infrastructure. So I think we’re going to look at into that segmented way and I think that’s the way to actually mitigate any risks along the way. But definitely it’s a cultural shift to think about how do you decouple the budget between the software budget and hardware budget. And many of our folks have actually been thinking on these lines for a while, because it's hard just the fact that we flip to switch overnight. We’re talking about this for almost a year now as we’re reporting our software to Cisco, are reporting our software to HP and IBM and reported our software to white boxes like OCP like servers and so on. So we’ve done a fairly thorough job in the last 18 to 24 months, which is exactly what I told in that script that this is not something that happened overnight.

The other question was, Duston, about on the software centric disclosure. I think you mentioned 800 million of software and support, if you adds on rate of the pass-through in the last 12 months. What portion of that is recurring today? And how do you think that recurring portion looks maybe 12 months from now?

Yes, that’s something again -- as far as how that changes and the recurring piece of that that we need to give some more thoughts of and I think maybe at the beginning of year, we’ll give some more thought there. We've obviously got big piece of the support part of the transactions that are obviously all recurring in 95% renewal plus rate there. And we continue to get more and more of the product portfolio set-up that way to [reoccur] but, yes, we’ll give some insights out of it…

The good thing is also that our software addition STARTER, PRO and ULTIMATE, they are all term licenses actually. And so most customers look at one-year, three-year terms and they buy it with the support lifetime itself.

Your next question comes from the line of Alex Kurtz from KeyBanc Capital Markets. Your line is open.

Dheeraj at the beginning of the call, you talked about a hyperscale customer win or running on OCP, I don’t know if that was new or not, but maybe you could refresh us on selling your software, maybe on to the top four hyperscalers but maybe 5 through 20, if there has been a development in the pipeline with that customers base?

Yes, I think one of the things we’ll do Alex in the coming couple of quarters, start talking about SaaS customers. We’ve done some good things with those folks in the past with a great vertical part. But the most exciting thing there is more than the 15 to 20 is to take our software and put it in the bare metal of the service in the top four themselves, and they’re all willing to open up, including the announcement that Amazon made about three to four days ago about bare metal as a service, that opens up some really good doors for us to go and use them as a platform where we make our software even more invisible than actually shipping systems to their on-prem environment. So look out for some more SaaS based insights in the coming quarters.

And just a follow-up with the moves to software. Have you seen any customers in the top 25 or maybe within the top global 2000 where they have approach to you about just purchasing the software directly from you and then just kind of going on their own as far as burning it on to the hardware?

Yes. We talked about a couple of these ELAs in the last quarter. In fact, one of the ELAs is very giant retail chain, it's a global 1000 company that has taken our software, an ELA version of it and is running it on both Dell and HP servers actually. So a lot of what we did in terms of getting that support from HP was because the customer wanted it. So we've done some other ELAs with global 1000 customers in a very similar fashion.

Your next question comes from the line of Wamsi Mohan from Bank of America Merrill Lynch. Your line is open.

So firstly, I was wondering, what was your average billing per customer in the quarter how has that trended. It also looks like the number of new customers that came into your installed base was lower than the past few quarters, so maybe you could comment on that as well. Thank you.

We've never really given a number on the average, if that was the question, average deal size or customer size there. It's just too many segments there. You got the OEM piece, which is obviously lower, you have Global 2000, that’s higher, you've got all this other stuff there. So we really haven't we haven't commented on, but I think you can take away that with the big deals that has a tendency to migrate up, the deep we get in the global 2000, obviously, that deal size ends up taking care of itself. But even on ours, the product is built for repurchase also. So it's a little deceiving there as you don’t have to buy these massive amounts of upfront purchases and that’s not how the products designed obviously. So you always have a bunch of continuing repeat purchasing there. On the customer account, I wouldn’t look too much into that. Q1 is always little softer from a customer perspective, but we added a decent amount of customers they are and Q2 will pop up naturally, which it usually does quite a bit from the Q1 level.

And as a follow up, I appreciate the clarity you guys given on the transition here. But maybe you could talk a little bit about what have you already done in the U.S.? What sales groups are you focused on, is it by vertical that have now been moved to passing through the hardware, or it's just that you’ve opened up across the U.S. right now and it's just taking time to show up on your P&L? And then how do you expect to incrementally launch that with your sales teams in the international markets? I appreciate any clarity there.

Again, it's fairly transparent for most things there. And again, it's not -- it has nothing really to do with verticals or customers or whatever, it’s a generic process that we can start executing and eliminating the path through hardware on our books there. So there is no limitations if you will from that perspective. And then international is just another process there. We just haven't focused on it yet, but it’s a similar process. It's a little bit more dispersed so you lose a little of the concentration so maybe take a little longer to do some things there, but it's very similar process that the folks are working on now.

And in terms of any segmentation to roll this out slowly and gradually, I think we just picked up some large deals and built some muscle memory and they’re just going down that path of deeper down the pyramid.

And then with SuperMicro, is there anything that they would be doing differently than they are right now with the appliances in the new model?

Just through the invoice, that’s all.

Our last question comes from the line of Katy Huberty from Morgan Stanley. Your line is open.

Dhiraj, does deemphasizing the hardware increase your chances of new partnerships or even the chance that partners like Dow will increase their commitment to selling your solutions versus their own and then I have a follow up.

I think, definitely it reduces friction in the sales motion, both for our sellers and the OEM sellers themselves. That being said, we also expect fully that the market we will make its decision and whether they want to get end-to-end support from us or whether they are comfortable actually going through to op-support. So I think we have to hassle to prove that either our OEM partners are very good at support, even at scale or customers who just pick us over going through to op support it-self. But absolutely, we expect the friction to go down. We don’t expect any algorithms that people have to apply to take it through this route to market versus that route to market, because there’ll be normalized currency for how sales people will make quota.

And then at the user conference in June, I think, you talked about Xi launching early 2018 today you talked about middle of the year. Is that just a function of early release versus GA, or is the timing different? And then maybe you can comment on when you think the memory market loosens, how that’s been a factor on the gross margins. Thank you.

I think one of the things, Katy, that we talked about in our overall engineering culture is how this release that we’re actually doing in 5.5 took us a little bit longer to come out with, in terms of general availability. And that pushes a few of the things out as well. So there is, I would say, three months worth of victim in Xi, because we have to keep the lights on with on-prem customers as well. And we do expect to actually change the way we do engineering. In these two pizza teams, like really thinking about cloud engineering, what does it mean to have a platoon of developers who are independently releasing code and becoming a company that’s more DevOps like, so that’s the transition that the company is going through to actually improve our overall fidelity of releases as well.

And Duston, do you have any comments on your thoughts around the memory market?

Yes. As we’ve said, it's gotten obviously better. I don’t think there’s any insights right now to seeing it actually going the other way as far as pricing goes. It's gotten to a manageable level that we’ve been doing a good job managing around it, and doing a fine job with margins. And we expect it to be a little bit better this quarter and then we’ll see from there.

Thank you, ladies and gentlemen, for joining today's conference call. This concludes today's conference call. You may now disconnect.