Earnings Call Transcript - DELL Q3 2020

Operator, Operator

Good afternoon and welcome to the Fiscal Year 2020 Third Quarter Financial Results Conference Call for Dell Technologies Inc. I’d like to inform all participants this call is being recorded at the request of Dell Technologies. This broadcast is the copyrighted property of Dell Technologies Inc. Any rebroadcast of this information in whole or part without the prior written permission of Dell Technologies is prohibited. Following prepared remarks, we will conduct a question-and-answer session. I’d now like to turn to Robert Williams, Head of Investor Relations. Mr. Williams, you may begin.

Robert Williams, Head of Investor Relations

Thanks, Erica, and thanks everyone for joining us. With me today are Vice Chairman, Jeff Clarke; our CFO, Tom Sweet; and our Treasurer, Tyler Johnson. During this call unless we indicate otherwise all references to financial measures refer to non-GAAP financial measures, including non-GAAP revenue, gross margin, operating expenses, operating income, net income, EPS, EBITDA, adjusted EBITDA and adjusted free cash flow. A reconciliation of these measures to their most directly comparable GAAP measures can be found in our web deck and press release. Please also note that our growth percentages refer to a year-over-year change unless otherwise specified. Finally, I’d like to remind you that all statements made during this call that relate to future results and events are forward-looking statements based on current expectations. Actual results and events could differ materially from those projected due to a number of risks and uncertainties which are discussed in our web deck and SEC reports. We assume no obligation to update our forward-looking statements. Now, I’ll turn it over to Jeff.

Jeffrey Clarke, Vice Chairman

Thanks, Rob. At our September business update with investors I talked about our two focus areas. First innovating and integrating across Dell Technologies to create the technology infrastructure of the future and second innovating to win in the industry consolidation. We're making solid progress on both which is what I will update you on today plus I'll give you my take on the demand environment. Customers are looking for Dell Technologies to help them reinvent and automate all parts of their business essentially help them build the infrastructure of the future so they can quickly respond to market trends, customer needs and drive business outcomes. This drives long term value for our customers and for us. It also drives us to innovate and invest in new technologies that are simpler, faster, and more capable even autonomous. All designed to be consumed the way customers want based on their business needs. We continue to invest in our Power portfolio across ISG which represents our best innovation and capabilities for the data era. We ship PowerMax with storage class memory and industry first-to-market and it's now 50% faster. In September, we announced that PowerProtect DD Series that now features a modern software stack with 38% faster backups and 36% faster restores. Most recently at our Dell Technology Summit earlier this month, we introduced our all-in-one autonomous infrastructure PowerOne. Part of the Dell Technologies cloud portfolio, PowerOne helps customers simplify their path to hybrid cloud combining PowerEdge Compute, PowerMax Storage, PowerSwitch networking, PowerProtect data protection and VMware virtualization all in a single system with intelligence built in to automate thousands of manual steps during its lifecycle. Further, we made the industry’s broadest infrastructure portfolio simpler to consume with Dell Technologies on demand, letting customers pay for infrastructure as they use it, freeing up resources, money, time and people to focus on transforming their business in today's on-demand economy. This gives customers the ability to plan and predict around peak data consumption and IT spend cycles. We are excited about what these new innovations make possible for our customers and what they represent in terms of how we've readied ISG for the future over the past two years. We stabilized the business, reclaimed share, simplified and powered up the portfolio and added sales resources to fuel growth. At the Dell Technology Summit, Michael unveiled our ambitious new goals for 2030 focusing on inclusion, sustainability, transforming lives through technology and data privacy. For example by 2030 our goal is that 100% of our packaging will be made from recycled or renewable material and more than half of our product content will be made from recycled and renewable material. And for every product a customer buys, we will reuse or recycle an equivalent product. These initiatives follow what we've achieved over the past 10 years like recovering more than 2 billion pounds of used electronics via responsible recycling and reusing a 100 million pounds of recycled content and other sustainable materials in our new products. We have a strong track record here to build on which helps us win in the marketplace. We've made several important social impact commitments that are increasingly important to our customers, team members and investors. I encourage you to learn more on our website and through the replay of the summit event. Before I get to the demand environment, I want to remind you of our operating framework that remains unchanged. We expect to outperform the market and take profitable share. We have gained 375 basis points of storage share over the last two years, 580 basis points of mainstream server revenue share over the last three years and approximately 600 basis points of PC share over the last six years. Now shifting to demand; from a customer set and geographic perspective, we see solid demand in small, medium and commercial accounts with weakness in China and some softening in the large enterprise space. From a business unit perspective, we see softness in infrastructure solutions demand driven by servers while client solutions and VM are solid. Let me share a few examples. Our storage business grew 7%. We saw a strong Q3 demand in data protection and hyper-converged, with VxRail orders up 82%. We expect to gain storage share in North America in calendar Q3; more importantly, our customers and sales teams are optimistic about our portfolio and positioning. The server demand environment remains challenged as many customers continue to digest last year's unprecedented growth. Excluding Greater China, our Q3 server order revenue was down mid-to-high single digits. While the server market remained soft, we continue to focus on growing our server buyer base which was up 5%, growing year-over-year for the fifth consecutive quarter. In addition, our server business benefited from increasing mix of high-value workload platforms, increased memory and storage content, and component cost decreases. We expect to gain share in North American and EMEA and retain our number one share positions in x86 mainstream server revenue in units. Client solutions demand remains healthy with tailwinds from the Windows 10 refresh cycle expected to continue and then fade into the first half of next year. IDC is projecting a decline in post Windows 10, which will be a headwind to CSG in fiscal 2021 overall. In Q3 CSG delivered strong results across commercial. Going forward we remain focused on direct growth and optimizing our channel relationships. We have invested in our sales forces in both small and medium businesses and continue to accelerate growth there. In consumer, we will focus on direct sales and high-end premium PCs including XPS and gaming, as well as increasing our attachment of services, software and peripherals. We expect component cost to remain deflationary in aggregate through Q1 of next year, but at a significantly lower rate than the last three quarters. We are now seeing inflation in SSDs with 20% inflation expected in Q4 and DRAM inflation beginning in Q2 of 2020, per industry analysts’ estimates. We clearly have captured the operating benefits from the significant cost declines in fiscal 2020, and it will be our job to mitigate these expected increases for our customers and for Dell in fiscal 2021. And finally, Intel CPU shortages have worsened quarter-over-quarter; the shortages are now impacting our commercial PC and premium consumer PC Q4 forecasted shipments. Now I will turn it over to Tom to take you through our financial results and guidance.

Thomas Sweet, CFO

Thanks, Jeff. We have executed relatively well this year and again in Q3 as we balance revenue and profitability with more challenging market conditions. Revenue was $22.9 billion, up 1%. FX remained a headwind this quarter impacting growth by approximately 110 basis points. Our deferred revenue balance increased to $25.9 billion, up 17% driven by our services and software businesses adding revenue and cash flow stability. Gross margin was up 11% to $7.8 billion and it was 33.9% of revenue, up 300 basis points driven by lower component cost and pricing discipline. Operating expenses were $5.3 billion, up 8% due in part to investments we have made in sales coverage to broaden solutions sales capabilities and expand buyer base. Operating income was up 18% to $2.4 billion or 10.7% of revenue. Our consolidated net income was $1.4 billion, up 21% primarily benefiting from strong operating profitability. Our EPS was $1.75 for the quarter. Adjusted EBITDA was $2.9 billion or 12.5% of revenue and $11.6 billion on a trailing 12 month basis. We generated $1.6 billion of adjusted free cash flow in Q3 driven by strong profitability and working capital discipline. Our Q3 adjusted free cash flow includes the impact of an approximately $400 million payment for tax settlement and our trailing 12 month adjusted free cash flow is now $7.7 billion. We repaid approximately $1.1 billion of gross debt in the quarter and $3.5 billion year-to-date. And we are positioned to repay approximately $5 billion of gross debt in total in fiscal year 2020. We have now paid down $18.1 billion of gross debt since the EMC merger. Shifting to our business unit results, Infrastructure Solutions Group revenue was $8.4 billion, down 6%. Storage revenue was flat at $4.1 billion, up 7% with strong growth in data protection in our industry-leading HCI business given our strong velocity with our VxRail solutions. Servers and networking revenue was $4.2 billion, down 16% due to a soft market particularly in China and in large enterprise customers in the US and in Europe. As Jeff mentioned, ex-China server order revenue was down mid to high single digits. We continue to be selective on larger deals when we see very aggressive competitive pricing. We are also focused on enhancing our coverage models and building sustainable long-term customer relationships. ISG operating income was $1 billion or 11.9% of revenue. Operating income percentage was up 140 basis points largely due to our business and geography mix. Our VMware business unit had another good quarter with revenue of $2.5 billion, up 11%. Operating income was $717 million or 28.9% of revenue. On a standalone basis, Q3 VMware growth in revenue plus the sequential change in deferred revenue was 18% or an increase of 12% excluding unearned revenue assumed from the acquisition of Carbon Black. NSX license bookings grew 50% while the vSAN license bookings grew over 35%. VMware closed the Carbon Black acquisition in Q3 and expects to close the pivotal transaction before the end of Q4. Client solutions group delivered strong Q3 revenue growth and profitability. Revenue was $11.4 billion, up 5%. Commercial revenue was $8.3 billion, up 9% including double-digit growth in commercial desktops and workstations. Consumer revenue was down $3.1 billion and it was down 6% as we continue to prioritize our commercial business in our focus on more profitable higher-end consumer PCs. CSG operating income was $739 million or 6.5% of revenue. Profitability was driven by component cost declines, commercial consumer mix and pricing discipline expect us to continue to balance revenue and profitability against market dynamics. As we have previously discussed, we are seeing and we do expect operating margins to turn back to more historical norms given the changing cost environment. Dell Financial Services originations were $2 billion, up 27% with managed assets up $10.7 billion, and we continue to see interest in our flexible consumption solutions including Dell Technologies on demand. Turning to our balance sheet and capital structure, we ended the quarter with $9.4 billion of cash and investments after a $1.1 billion of gross debt pay down in the approximately $400 million tax settlement payments. Our core debt balance ended the quarter at $35.9 billion, down almost $13 billion since the EMC acquisition. Net core debt ended Q3 at $29.6 billion. We remain focused on maximizing free cash flow and our capital allocation strategy is unchanged. Given our recent debt pay down and refinancing activity we have only $2.3 billion of core debt due in the next 15 months and we will continue to look for additional opportunity to smooth our debt maturity profile and optimize our capital structure. We still expect to pay down at least $4 billion of gross debt next year and are committed to reducing leverage to achieve investment grade ratings. Moving to guidance we continue to monitor the macroeconomic and IT spending environments as well as the ongoing trade discussions between the US and China. As Jeff mentioned earlier, we do see continued softness in large enterprise customers and in China. Based on Q3 result and the Intel CPU shortage Jeff mentioned, we now expect fiscal 2020 GAAP revenue of $91.5 billion to $92.2 billion. Operating income of $2.9 billion to $3.1 billion with EPS of $5.83 to $5.98. We now expect our non-GAAP revenue range for the current fiscal year to be $91.8 billion to $92.5 billion. The reduction of the range is principally due to the Intel supply dynamic. With our strong profitability year-to-date driven by favorable component costs and disciplined pricing, we are raising the low-end of our non-GAAP operating income and EPS guidance ranges. Our non-GAAP operating income range is now $10 billion to $10.2 billion and our non-GAAP EPS guidance range is now $7.25 to $7.40. Our non-GAAP tax rate is expected to be 16% plus or minus 1%. I want to give you some insights into our preliminary thinking for fiscal 2021. We continue to see macro headwinds in China and softening client solutions demand post the Windows 10 refresh. That coupled with the Intel CPU supply constraints in the global macro environment leads to a slightly more cautious outlook on fiscal 2021 growth. We also expect the benefit of the fiscal year 2020 component cost deflation to wane as component costs are forecasted to be inflationary in fiscal 2021. Accordingly, our preliminary view is that operating income margins may trend closer to the fiscal 2019 levels, and we are balancing investments in the business and adjusting spending as appropriate. We will provide an updated view of fiscal year 2021 expectations on our Q4 earnings call in February. In closing, you should expect us to maximize our equity value to all shareholders through the five distinct levers we talked about at our business update: current operations, synergies, new opportunities, corporate structure, and capital structure. Our model is focused on long-term profitable growth with the ability to adjust as needed based on market conditions. We are focused on growing faster than competitors in the industry, growing operating income and EPS faster than revenue over the long term and generating strong cash flow. You've seen that from us this year as we maximize cash flow and profit given the environment you can expect us to adjust accordingly in fiscal 2021. With that, I'll turn it back to Rob to begin Q&A.

Robert Williams, Head of Investor Relations

Thanks, Tom. Let's get to Q&A. We ask that each participant ask one question to allow us to get to as many of you as possible. Erica, can you please introduce the first participant?

Operator, Operator

Well, I'll take our first question from Wamsi Mohan with Bank of America.

Wamsi Mohan, Analyst

Yes, thank you. I appreciate the early fiscal 2021 thoughts. I was curious if you are anticipating any changes in the macro backdrop as you look at that and if I could your storage growth to 7% was very solid compared to a lot of peers. Can you talk about particular areas of strength in the quarter and how much do you think was part of the bundled go-to-market and the LAs? Thank you.

Thomas Sweet, CFO

Hey, Wamsi, it’s Tom. Let me start and then maybe Jeff can jump in here as well particularly on the storage and his view of the macro. As we think about fiscal 2021, I just wanted to give you some or we wanted to give you some preliminary thinking as we see some of the current macro dynamics right principally some of the caution in the environment given the US-China trade dynamics, the softness we've seen in large enterprise consumption particularly in servers. And the Intel CPU shortage is causing some dynamics that are causing us to be a little bit more cautious than perhaps we would have been say three to four months ago. So, we're going to work our way through that. We'll update you as we get through the end of Q4 and give you our view in our Q4 earnings call. But I thought it was appropriate that we give you some perspective as we think about next year and we're clearly still in the midst of working our way through our planning process for next year. And then Jeff maybe you could talk about storage and any...

Jeffrey Clarke, Vice Chairman

Happy to. Yeah, Wamsi, when I look at the storage and highlights and things that they certainly are pleased to see. One is referenced that in our opening remarks VxRail and its 82% orders growth. We continue to see VxRail combined with VMware Cloud Foundation helping the customers build out private cloud in this hybrid world that we’re looking. So, that's certainly a highlight that we continue to see. The acceptance of our new data protection products has been quite good, the integrated product – integrated products as well as the new data domain platforms are off to a good early start which to me is continued reinforcement as we've modernized the portfolio and guided increasingly more modernized the portfolio and got it increasingly more competitive we're seeing the market respond accordingly. And then the other areas that I'd point to is just the continued progress of our PowerMax platform and the new Unity XT both of them are growing in the double-digit category as we look at Q3 results. So very strong demand for our new products which is encouraging the continued build out of on-prem private cloud VxRail plus VCF are clearly things that are highlights of our storage business and storage demand.

Thomas Sweet, CFO

Hey and Wamsi, it’s Tom one more comment I should have added is clearly as we think about component cost dynamics, we've enjoyed extraordinary deflations this year and I think most of you know we've talked about it from time to time that our model works extraordinarily well in a deflationary cost environment where we passed some of that cost through in terms of pricing but we hold some of that cost goodness in terms of profitability. As you flip to a more inflationary environment, that clearly is not the dynamic and I think part of what we wanted to do is make sure people are thinking through that component cost dynamic to year-to-year as you set up for next year. So, obviously it's early, we'll continue to monitor the forecast and our thinking around that. But there are some dynamics working through on our component cost as we think about next year.

Wamsi Mohan, Analyst

Very helpful. Thank you, Tom.

Operator, Operator

We will take our next question from Katy Huberty with Morgan Stanley.

Katy Huberty, Analyst

Good afternoon. Why do you think you are seeing such a bifurcation between continued strong storage segment and accelerating declines in servers? In recent quarters, it seems like the China server business was the explanation but now it looks like the unit weakness in servers has expanded outside of China and just curious what the dynamics are that create such different trends between those two segments and any comments around how the industry is flowing through component cost to pricing and if maybe that's a factor in the results? Thanks.

Jeffrey Clarke, Vice Chairman

Sure, Katy. This is Jeff. A couple of comments and I know Tom will jump in with his thoughts as well. I think we've consistently identified a large enterprise in large bids in China in our previous quarters this year as soft spots. Clearly we saw unprecedented growth in the industry last year. That growth is being digested by the largest companies in the world and we're seeing that primarily in that large enterprise in the United States and EMEA. China has been a headwind we've called out I think consistently now for the last three quarters for sure, and that continues to be a headwind in that marketplace. There are also signs that we’re encouraged by as the progress that we've made in our North America commercial, our HP and NV our sales forces have seen double-digit order growth in those areas in the server so we're encouraged and I mentioned growing buyer base and their opening remarks too I believe it was up 5% which marks the fifth consecutive quarter of buyer base growth. It is a competitive market out there in the large bids. It's an aggressive marketplace from a pricing point of view. We're competing, but those bids are clearly competitive and probably the other thing that is important to notice is they're taking longer to close. The caution that we're seeing with our large customers is certainly being seen and our ability to close transactions are how long it's taking to get that order closed would be another piece of color that I would add.

Thomas Sweet, CFO

And Katy, it’s Tom. I want to point out that we are clearly seeing a decrease in component costs being utilized to set aggressive pricing right now, and this trend is evident in large bids around the world, including China. We have mentioned before that we will compete where necessary, and we aspire to expand our customer base; however, we aim for long-term relationships with the right customers that align with our profitability goals over time. Thus, we are being selective, and that reflects the current dynamics we are facing. I would also note that our transactional server business is performing reasonably well, with weaknesses mainly in two areas. When it comes to storage, the buying environment is different, as the solutions provided are generally less price-sensitive and not as closely tied to commodity costs; instead, they focus more on intellectual property related to capabilities and features of the storage solution. This leads to a value-based selling process rather than a procurement-driven one. We observe a contrast in what’s occurring in the industry. We are in a data-driven era, and the volume of data being generated isn't decreasing. It needs to be stored, which likely explains the different trends between compute and storage. I would highlight VxRail, which is a hyper-converged solution that integrates computing and storage in a modern two-tier architecture, assisting customers in developing on-premises private clouds as a significant opportunity that we're excited about moving forward.

Katy Huberty, Analyst

Thank you. That’s helpful.

Operator, Operator

We’ll take our next question from Toni Sacconaghi with Bernstein.

Toni Sacconaghi, Analyst

Yes, thank you. I just wanted to understand this notion of incremental pricing pressure pricing being passed along to customers so perhaps you can help on the server side. What was unit versus ASP growth for the server in the quarter? And when you talk about operating margins you know I realize it's very preliminary in fiscal 2021. Is what you're anticipating that the benefit of component pricing will be increasingly passed along or are you actually more worried about prices staying where they are but component prices going up to the detriment of your margins? And perhaps in addressing that you can talk about both PCs and servers and where you think you are in terms of halfway, three-quarters of the way, just starting in terms of prices being passed along component prices being passed along in the form of lower prices to consumers? Thank you.

Jeffrey Clarke, Vice Chairman

That's a great question. Let me address all the parts. Looking at the trend of revenue and your specific question about revenue unit trends, our revenue growth outpaced our revenue decline, which implies an ASP impact. Interestingly, we're seeing continued progress in high-value workloads that are increasing DRAM and SSD content, both of which saw double-digit growth. We actually expanded sales of Intel’s CPU stack and servers concurrently, but these were not sufficient to counter a slight decline in ASP. I believe that answers the first two questions. Tom will provide more insight on the long-term implications shortly. In the marketplace, considering the series of price adjustments we've made in the first three quarters of this year, we are fairly comfortable with our current price position in the product line, particularly servers, which aligns with historical norms, maybe on the higher side. We're observing positive responses from businesses that are closely tied to street pricing, such as HP ENVY and our North America commercial business, indicating good performance for us. The largest business area, as Tom and I mentioned, is where we are seeing the most aggressive activity and where commodity inflation is being passed on to customers.

Thomas Sweet, CFO

Yeah as you think through Tony for FY 2021 and look we are still looking at this but if you take what Jeff just said which is critically for our PCs and servers there are certain list price and street price frameworks that we want to run towards as component cost deflation stabilizes I'll say it that way our flattens out and then you start to get inflation and you have this dynamic where you know you ultimately will make decisions about how you price or how do you adjust pricing to adjust for those component cost input rises. If you decide to raise prices, we've talked about this in the past. In general, you only get about 60% of the price increase in any given quarter. So, if you make a price increase in the quarter, you don’t automatically move to that new price, so it takes time to digest price increases and you're going to balance out relative to competitive dynamics in terms of where are you from a list position and a street price position, such that you stay competitive. And so, in a commodity deflation environment, which is what we've been in this year, we've been able to adjust street pricing or adjust pricing downward, but the rate of deflation has been greater than that was such that it has allowed us to capture some of that deflation in the form of incremental dollars to the bottom. As you move to an environment of inflation that opportunity is not there and then you're trying to balance pricing versus demand generation and ensuring that you stay in price position, but yet protect the P&L as best you can. And so, what we've navigated through these cycles in the past, the model will adjust the model appropriate, but that's the dynamic we're working our way through. We're thinking about as we think about next year right now. This will get – hopefully will continue to get more clarity on this potentially second half of fiscal year 2021 as we go into FY 2021, but our view right now is that the cost environment becomes inflationary as you go through the year correct.

Jeffrey Clarke, Vice Chairman

And then your question specifically to PCs, Tony largely the commodity goodness in the first half of the year is already passed through in price. We've kept that product line in price position as well. It's largely we've seen most of the cost of goods have passed through. I do think we have to work our way through the supply shortages and that ultimately the market pricing will be but there isn't a bunch of cost being held back it is already pushed through the price.

Thomas Sweet, CFO

We have seen in areas where there are parking shortages that absolutely the pricing competitiveness or the pricing aggressiveness I should say sides to some extent because you have a fixed amount of supply that you need to allocate the money in an appropriate way. So we'll just have to work our way through that as we go through the early parts of next year.

Operator, Operator

We'll take our next question from Rod Hall with Goldman Sachs.

Rod Hall, Analyst

Yeah. Hi thanks for the question. I guess I wanted to start by asking whether the trade situation has driven any kind of inventory increases. I know it's probably dominated more by shortages of CPUs. But just wondering if you guys have seen any inventory changes particularly in the US but maybe in other parts of the world as well as potential tariffs approach? And then I wanted to come back to this unit and pricing answer and just clarify whether that is inclusive of China. I guess it is and I wonder Jeff if you could maybe comment excluding China what happened to those prices and AUPs on servers? Thanks.

Thomas Sweet, CFO

The tariffs inventory were simple, our inventory levels have not changed. We continue to run this business on very low levels of inventory. And to your point, that’s the shortages particularly there were specifically CPUs that are really driving our position of materials across our global supply chain, not tariffs whatsoever. In terms of unit price we don’t parse that out excluding China and certainly I won't do that today but it's the trend that I described or seeing again those trends actually oriented businesses respond to the price position in the marketplace as I mentioned our units were down as well not as down as much as the revenue. We did see increases in content of the DRAM and SSD as well as the CPU that I mentioned earlier. And I think that bodes well longer-term as we think about content. We think about high-value workloads and our ability to offset some of the change in the cost environment going forward. If you recall the front end of this last server build-up we had commodity increases across the board.

Jeffrey Clarke, Vice Chairman

And by the way, it’s Jeff that was a server comment. That wasn’t a PC comment, correct.

Thomas Sweet, CFO

Yes.

Jeffrey Clarke, Vice Chairman

And I would add Rod just on the – we have seen some elasticity in server transaction volume, it’s particularly in the small and medium business that's responded well to the price position and price moves that Jeff and his team have done. It's just been a – we've had a – I would say a pretty significant headwind on large enterprise bids and then – particularly in that the China business given some of the geography macro dynamics over there.

Operator, Operator

We’ll take our next question from Aaron Rakers with Wells Fargo.

Aaron Rakers, Analyst

Yeah. Thanks for taking the question, and I do have a product question as well. On the component side, you talked about with regard to the client PC business that SSD pricing would be up I think 20% sequentially in the calendar fourth quarter and a DRAM pricing would start to trend higher into 2Q of 2020. Can you give us the same kind of framework or commentary of how you are seeing those trends specific to the server or enterprise SSD as well as a server DRAM market. You know how are you thinking about those dynamics as you kind of give the commentary with regard to fiscal 2021? And then any update on the mid-range next platform on the storage side, when is that expected to start to shift and impact the storage business? Thank you.

Jeffrey Clarke, Vice Chairman

Sure, Aaron. And real quickly, the NAND trends in DRAM trends that I mentioned were across all of our NAND purchases and DRAM purchases. So, industry analysts and experts have projected the costs that I referenced earlier. The 20% of SSD is now DRAM I believe I said Q2 of calendar 2020. That's across our broad purchase of both server components as well as PC components. And then in the mid-range, we're still on track. So the commitment I have made in the number of these calls that we will have the product completed by the end of the fiscal year and it will be released. We're pretty excited about that particularly with the momentum we've seen on Unity XT which is the bridge from the old Unity product. A performance increase of significant performance increase that we launched over the summer that take us to the new mid-range product out at the end of the fiscal year. We like what we've done. Certainly we've talked a little bit about the feature set, it's a modern stack containerized capability at some modular design without getting into pre-disclosure and what the exact product is. We're excited about what it means. We have the right bridge strategy and we'll be able to help our customers migrate from the current technology to our new mid-range storage product.

Operator, Operator

We'll take our next question from Simon Leopold with Raymond James.

Simon Leopold, Analyst

Thank you for taking the question. I wanted to see if we could double click on the dynamics of what's happening in China specifically set some context for us, how much of the business comes from China and then in terms of what's going on there how much do you attribute to their weaker economy and how much do you attribute to let's call it a political aspect of maybe not buying from Dell because you're a US company in which case, one is resolved by trade, the other resolved by a better economy? Thank you.

Thomas Sweet, CFO

Hey, Simon, it's Tom. Let me provide some context. From a size perspective, we've mentioned previously that the China business unit accounts for high single digits as a percentage of the total company's revenue. You can do some rough calculations based on that. Regarding the demand environment in China, I won’t delve into specifics, but there are a couple of dynamics at play. There is an overall macroeconomic softening occurring in the country, which we've observed in parts of our China business. It's challenging to attribute this entirely to political factors, and I can’t make definitive claims on that front. Our current focus is to ensure the China business is structured appropriately so that when the Chinese economy rebounds, we can seize the opportunities that arise and meet our customers' needs. It's a tough environment, and we've implemented several actions to position that business effectively. We will continue to optimize as much as we can. We're committed to the long-term in China, but we need to ensure that the business model aligns with the opportunities available.

Simon Leopold, Analyst

Do you feel as if you're losing share or holding share in China?

Thomas Sweet, CFO

Simon it's a mixed bag. We are taking share in PCs. We've taken some share in storage. We have deliberately walked away from a number of large server deals over there where the pricing just most absolutely made no sense to us, I’ll say it like that.

Jeffrey Clarke, Vice Chairman

With the hyperscalers.

Thomas Sweet, CFO

Yeah, principally with the hyperscalers over there and so we have lost server share in China and part of that was by design, most of it was by design. At the same point in time what we've asked our Chinese to do is say look we want you to build a sustainable long-term model around a broader set of customers of building the customer base to drive a more, what we would call a more healthy environment in terms of the server framework, server business over there.

Operator, Operator

We’ll take our next question from Amit Daryanani with Evercore ISI.

Amit Daryanani, Analyst

Thanks a lot guys. I guess two questions from me as well. Jeff first view how should we think about the border storage market given all the commentary you made in fiscal 2021 and perhaps even touch on both what do you think the end markets are going to do and does Dell's share gain narrative become more powerful in fiscal 2021 given some of the comments you made on the unified mid-range offering earlier?

Thomas Sweet, CFO

Yeah if we look at what the industry analysts are projecting for next calendar year I believe the storage external storage forecast is roughly minus 1% I think is the aggregate consensus of all of the industry experts and analysts there. But my job is to do better than that outperform the marketplace and take share. We're going to do that with the industry’s border storage portfolio on our classic three-tie storage architecture so primarily arrays with high-end mid-range and the entry-level products. We have the advantage in the high-end of the marketplace with our Paramax products, our Unity XT product as I mentioned earlier is doing well growing double digits, it's a bridge to the new product that will be out next year as I mentioned. We've made progress with the entry-level product. Our broad storage portfolio moves into the areas of data protection which the new integrated data protection appliance and the new data demand products off to a good start as they've been refreshed. Then we have the HCI and CI portfolios of PowerOne that I just mentioned a leader in the converged infrastructure category and then we've certainly been the market leader in the fast-growing HCI space. So with that broad portfolio all and now largely refreshed and modernized I'm optimistic that we can outperform the marketplace as we head into next year. That's certainly the targets that we have in place. You combine that with the sales force build out that we've put in place over the last two plus years, more storage sellers, more storage specialists. We've made progress in what we call the enterprise acquisition accounts that business is growing nicely. So, I'm optimistic that we have put the right plans together with the right portfolio, the right investments to grow our storage business at a differentiated rate to the marketplace. I'd circle back we've largely done that in the last two years. We've taken 375 basis points a share in over the two-year period we've largely grown the external storage business in a market that's slightly down.

Amit Daryanani, Analyst

Got it. That's really helpful. And I guess Tom I just want to make sure I heard you correctly initially you said fiscal 2021 operating income margin is a little bit closer to fiscal 2019. I think that's a comment you made. Is there a way to think about what is free cash flow does and that narrative and maybe a bit qualitative you talk about what are the puts and takes of free cash flow in fiscal 2021 versus fiscal 2020 for you guys?

Thomas Sweet, CFO

Yeah. Hey, what I’ve said was our preliminary view is that operating income margins may trend closer to fiscal 2019 levels. And principally because as we think about and this will also differ asking on what ultimately happens with component cost environment but right now we expect it to be inflationary. We don't forecast free cash flow externally I should say we do forecast it internally clearly. But look there will be a function of free cash flows all as a function of profitability and working capital and other dynamics within the company and so it's our job to optimize working capital, it’s our job to optimize free cash flow. More importantly you heard me say on the call that hey we're committed to the $1.5 billion essentially to $1.5 billion of debt pay down in Q4 to get to the $5 billion target we've laid out. We've paid $3.2 billion of debt down so far year-to-date and that we’re committed to the $4 billion of debt pay down next year. And even as we run the sensitivities around that given what we know today that although within the framework of that we're comfortable with. So, we'll continue to update you guys and give you further thinking on that as we come back again to Q4, but that's the framework we think of right now.

Operator, Operator

We'll take our next question from Shannon Cross with Cross Research.

Shannon Cross, Analyst

Thank you. Just one question. Wanted to go back to PCs. You indicated that the shortages from Intel are going to impact the current quarter. And then you talked a bit about I know perhaps lingering pressure in 2021. So, I'm just kind of curious as to what you see the trajectory like. And do you expect, I think HP just indicated they expect a bit of a push out in terms of our continued, I guess stronger demand than maybe one would have thought in the coming year because of some of the mix dynamics and pressure from Intel, I'm curious as to what you're saying. Thank you.

Thomas Sweet, CFO

Yes, Shannon. Let me at least try to give a couple of data points. One, I think we’ve talked about this. We've largely mitigated the supply challenges to date and we think our direct models allowed us to do that with the speed and flexibility that it gives us to adjust to the output side of the factory. Clearly with what we said earlier, there has been a change in Q4 and we are dealing with that real time. History would suggest if we can't fulfill demand in the industry that we will see it spill over into the coming calendar year particularly with Windows 10 roughly two-thirds through the refresh cycle and to the point there's a delay with that that's going to spill over into the following calendar year perhaps maybe another way to say this we think that – elongates the cycle we've talked about – we think it spills over into the first half already I think there's just another validation that it will spill over into the first half of next year given the continued increasing challenges within Intel supply. So that's how we've certainly look at it, we’re certainly dealing with the information that we have in real time and we're making the adjustments accordingly.

Operator, Operator

We’ll take our next question from Andrew Vadheim with Wolfe Research.

Andrew Vadheim, Analyst

Hi, thank you. I had one on margins so if we put aside products’ gross margin expansion and turn over to services, this is the second consecutive quarter of services gross margin being run at 100 bps to 150 bps lower than where it was tracking last year through Q1 of this year. Can you just walk through the puts and takes on that line item and whether anything structurally has changed?

Thomas Sweet, CFO

Well, there's nothing that has structurally changed on services margin. Revealing that and I don't have the data right in front of me I would offer you a couple of comments. One is overall we've seen actually good attach rate on services or services offerings in general and in fact the content rate on some of our products has increased so we're pleased with that content rate – as we think about the margin dynamic, the comment I would offer you is principally whether – we're putting a lot of that services profitability onto the balance sheet that's getting building up the deferred revenue so you'll have to think about of that dynamic, but there's nothing structurally that's happened in the business or how we’re marketing or positioning the services that would call out any significant structural issue.

Operator, Operator

We’ll take our next question from Jeriel Ong with Deutsche Bank.

Jeriel Ong, Analyst

Thank you for allowing me to ask a question. I would like to understand the transition from fiscal 2019 to fiscal 2020 and then to fiscal 2021, which is expected to resemble fiscal 2019 regarding operating margin. There are two perspectives to consider, and I'll let you respond. First, regarding the decline in margin, what portion of this revenue or perhaps the pricing mix is influencing the regular margin? Alternatively, how much of the year-over-year margin degradation can be attributed to ISG, CSG, or other segments? Thank you.

Thomas Sweet, CFO

You’re talking, hey it's Tom. You're talking about fiscal 2020 to fiscal 2021. Is that the comment? Is that the question?

Jeriel Ong, Analyst

Yes. Yes, that is the question.

Thomas Sweet, CFO

Well I think you've got to go back to what we think the drivers are around a potential sort of potential margin pressure operating margin pressure next year. We have been pretty vocal throughout this year, principally in the last couple of quarters on these calls around the profitability profile of our CSG business and that it has trended higher than normal given some of the component cost inflation we've seen and so a significant majority of the margin dynamic year-to-year assuming that component costs move from deflation to inflation which is the forecast that we have right now will impact the profitability profile of our CSG business back towards historical norms. So I would think about most of that pressure being in – or that dynamic is a big driver of some of the profitability, potential profitability shifts year-to-year. You’ll have a little bit of that dynamic within the server because again you have to think about which labs are more commodity cost sensitive in terms of pricing dynamics and those two labs tend to be our most sensitive – impact, the ones that are impacted the most.

Jeffrey Clarke, Vice Chairman

Well they are and some of the key hit it is, if you look at the deflation in calendar 2019. Our model generally captures that more quickly and as advantage we have that deflation and I think you see it from what was our beginning of the year expectations for profit to where we’re getting that through today and as Tom said we have a deflationary period coming and those businesses will perform back towards their historical norms.

Operator, Operator

We will now take our final question from Matt Cabral with Credit Suisse.

Matt Cabral, Analyst

Thank you. You guys have talked about China several times but wondering if you could back up and talk about the demand environment across other geographies around the world and also just wanted to clarify if you think the macro overhang has actually gotten worse versus where we were in the second quarter or if the drag is more kind of consistent over the last – let's call it 90 plus days or so.

Jeffrey Clarke, Vice Chairman

Yeah, look it’s time, let me, I think the macro overhang is reasonably consistent maybe slightly worse but it didn't fall off the cliff or anything like that but we are just seeing continued caution in the environment, continued softness in the environment – we’ve talked about it a couple of times but principally in server we have seen softness in large enterprise. Slowness in procurement cycles, elongation of procurement cycles, I should say. Critical projects are still getting done, but they seem to be taking longer from a procurement cycle. And I think that's just a function of sort of the macro dynamics that many companies see them are in, in the sense of trying to navigate what is a little bit of an uncertain macro political economic environment right now and so our perspective is there's a bit of caution out there that we're seeing. Our sales organizations are out there of selling every day. So, we've got the broadest reach in the marketplace. We are being disciplined on pricing and so I'm not chasing and driving deals that just don't make economic sense to me over the long term. So, there is some – there is some level of that happening within our business. As we step back and think about your question around G6, if you think about the various geographic dynamics, we’ll tell you that in general, the US remains reasonably healthy, right. Yes, there's some large – there's some softness at large on the large enterprise procurements and servers in particular. But our commercial North America business, our small and medium North American businesses are doing quite well. We're pleased with the progress. We have seen some softening in Europe, Western Europe in particular in Q3. I think Japan continues to be strong for us. India continues to be reasonably strong. China's been soft as we've talked about. Australia and New Zealand have been soft, and so and Brazil has been strong. So, I mean if you just bounce around the globe in some of the major economies, it's a little bit of a mixed bag, which is I think the message we're trying to send to you guys, which is it's a bit of a mixed bag. Look, it's our job to navigate through all of that and drive the business forward, and I'm confident we'll do that and that's the navigation that we have to get done here in Q4 on into next year. So I think from an overall positioning, I think we're well positioned. We've got the broadest product and solution portfolio in the market. Customer receptivity to our offerings is high, so it's a matter of us going out there and making sure that we are having the appropriate conversations with our customers every day and helping them drive to there the outcomes that they desire.

Robert Williams, Head of Investor Relations

All right. Good. Well, thanks Tom and thanks Matt. As a reminder we'll be at the Wells Fargo Summit in Las Vegas and the Bank of America Leverage Finance Conference in Boca Raton on December 3rd. We’ll be at Credit Suisse in Scottsdale on December 4th. Then the following week will be in New York at the Raymond James Conference on December 10th and the UBS Conference on December 11th. And finally, we'll be at CES in Las Vegas in January. So, thanks for joining us today and we hope you all have a great Thanksgiving.

Operator, Operator

This concludes today’s conference call. We appreciate your participation. You may now disconnect at this time.