Ladies and gentlemen, thank you for standing by and welcome to Western Digital's First Quarter of Fiscal 2020 Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. Please follow the operator's instructions for the Q&A. I would now like to hand the conference over to your speaker, Mr. Peter Andrew. Please go ahead, sir.

Okay. Thank you and good afternoon everyone. Before we begin, let me remind everyone that today's discussion contains forward-looking statements including product development expectations, business plans, trends and financial outlook based upon management's current assumptions and expectations and as such does include risks and uncertainties. We assume no obligation to update these statements; please refer to our most recent financial report on Form 10-Q filed with the SEC for more information on the risks and uncertainties that could cause actual results to differ materially. We will also make references to non-GAAP financial measures today; reconciliations between the non-GAAP and comparable GAAP financial measures are included in the press release and other materials that are being posted in the Investor Relations section of our website. With that, I'll now turn the call over to Steve Milligan, our CEO.

Thank you, Peter, and good afternoon everyone. Joining me today are Mike Cordano, President and Chief Operating Officer; and Bob Eulau, Chief Financial Officer. Before we discuss our results for the first quarter of fiscal 2020, I want to spend a moment talking about the other news we announced today. After a long and fulfilling career with Western Digital spanning two decades, I have informed our Board that I plan to retire as CEO. I will continue to serve as CEO until the Board has identified and appointed a successor. Western Digital is a significantly different company than the one I first joined in 2002. We are more diversified, more resilient and much better positioned to capture the opportunities of today's evolving data marketplace. Since my appointment as CEO, Western Digital has transformed from a storage component provider to a diversified enabler of data infrastructure with the broadest portfolio in the industry, offering customers a powerful combination of hard drive storage and flash memory products. We have successfully executed many key strategic initiatives including the company's acquisition of SanDisk, the integration of Western Digital, HGST and SanDisk as well as the extension of Western Digital's 19-year partnership with Kioxia. We now operate a powerful platform that uniquely positions us to provide new architectures and capabilities to manage the volume, velocity and variety of data. As we think about what comes next for our company, I believe now is the right time for Western Digital to begin the transition to its next phase of leadership. Serving as Western Digital CEO for the past seven years has truly been one of the highlights of my career; I want to thank our team for their support and dedication. I could not be prouder of what we have accomplished together and consider myself quite fortunate to have worked alongside such a talented team. In terms of next steps, I look forward to continuing to work closely with the team while the Board conducts a search for our next CEO. Given our strong management team, we expect this transition to be seamless for our shareholders, our employees and the customers that rely on our best-in-class service and products. Once my successor is on board, I will remain with the company in an advisory role until September 2020 to ensure a smooth transition. I will also continue to serve as a Director on the Western Digital Board for a transition period after my successor is appointed. With that said, let me turn to our performance for this quarter. Fiscal 2020 is off to a good start. Revenue exceeded the guidance range we provided in July, and non-GAAP EPS was at the upper end of the range. The upside was driven primarily by the success of our capacity enterprise drives for the data center. We are executing well in the Data Center utilizing the power of our portfolio. At the core of our success in this market is our industry-leading capacity enterprise hard drive solutions and the exceptional value we provide to our data center customers for their diverse storage needs. During the quarter, we made two important announcements to further extend our product leadership. First, we introduced 16 and 18 terabyte CMR drives and a 20 terabyte SMR drive, all enabled by our energy-assisted recording technology; these drives are expected to sample this quarter. Additionally, through our continued investments in heads, media and mechanical design, we began shipping an air-based 10 terabyte drive providing significant benefits to our customers. I am pleased to announce we commenced the initial revenue ramp of our NVMe-based enterprise SSDs to major hyperscale and OEM customers during the September quarter. Efforts to qualify and ramp additional customers with our next generation products based on our 96-layer 3D flash technology are going well and should position us to further increase our participation in this important market. Western Digital's ability to offer both hard drives and flash-based solutions differentiates us from our competitors and allows us to more strategically partner with our data center customers. Outside the data center, the overall demand environment across the consumer, mobile, PC and retail end markets is solid. Furthermore, we are seeing improving trends across our flash product portfolio and continue to believe that the flash industry has passed a cyclical trough. With the broad and growing product portfolio, Western Digital remains well positioned to benefit from the long-term drivers of the growth in the value of data. With that I will now ask Mike to share our business highlights.

Thank you, Steve and good afternoon. Before I get into my prepared remarks, I want to congratulate Steve on his upcoming retirement. I value and appreciate the partnership we have built together over the past decade and want to acknowledge Steve for his leadership and numerous contributions to Western Digital. We have quite a bit of time and work to do between now and September of next year and look forward to working together to execute on our plans. As Steve mentioned, fiscal 2020 is off to a good start. We had record hard drive exabyte shipments driven by the success of our capacity enterprise drive family. We also had record exabyte shipments in flash as we benefited from demand elasticity, share gains in SSDs for PCs and notebooks. In Data Center Devices and Solutions our capacity enterprise exabyte shipment growth was over 60% year-over-year, led by the ramp of our 14 terabyte drives. These drives now represent the majority of our capacity enterprise unit and exabyte shipments. Industry analysts expect the 14 terabyte capacity point to be the industry's highest volume product through the first half of calendar year 2020. Building on our aerial density leadership and execution on mechanical design, we announced our plan to accelerate the introduction of our nine-platter energy-assisted capacity enterprise drive platform. This enables us to ship 16 and 18 terabyte CMR and 20 terabyte SMR drives on a unified platform, simplifying the qualification process and reducing the time to market for our customers. We will be sampling all of these drives by the end of this quarter and we will commence volume shipments in the first half of calendar 2020. In addition, we began shipping a new 10 terabyte air-based product powered by our innovative airflow architecture, underscoring our aerial density and mechanical design leadership. Given the strength of our capacity enterprise portfolio and the opportunities we see in this market, we now believe our exabyte shipment growth will exceed 40% in calendar year 2019, up from our prior estimate of 30%. In enterprise SSDs our NVMe-based products experienced a strong quarter of growth and we expect continued growth in the December quarter. We are qualifying our next generation 96-layer product with additional customers, which positions us for further market share gains in calendar year 2020 and beyond. We have a unique and sustainable competitive advantage within the data center built on strong customer relationships and a strong product portfolio. Our strategic position within this important end market will drive future revenue growth. In Client Solutions, revenue grew on a sequential basis, driven by an improving pricing environment and a seasonal increase in bit shipments. This quarter we began shipping 96-layer QLC-based retail products and external SSDs. The trust and reputation of our brand and our customers' preference for the performance and reliability of our solutions are key differentiators. In Client Devices the main contributor to our year-over-year decline was our decision to limit our participation in the mobile market. On a sequential basis, we expect to ship more bits into the mobile market in the December quarter. In PCs and notebooks, we gained market share in client SSDs as our exabyte shipment growth exceeded 70% year-over-year. Our bit production of 96-layer BiCS4 surpassed 64-layer BiCS3 during the September quarter. We are on track to commercialize BiCS4 across all our product lines by the end of calendar 2019. Our JV partner K1 fab and Western Digital executed well bringing the Yokkaichi fabs back to full production after the power outage, limiting the output reduction to about four exabytes. Our flash supply is tight and we continue to believe that any excess inventory in the flash industry supply chain will be substantially reduced by the end of calendar 2019. We expect flash industry supply bit growth to be in the mid-20% range in calendar 2019 and in the low 30% range in calendar 2020. In addition to continued growth in our existing flash portfolio and capacity enterprise markets, we see several new incremental growth opportunities. First, the launch of the next generation gaming consoles will be an important event for the gaming industry and our flash business; we expect these new consoles to utilize high capacity flash storage to improve the gaming experience. Second, we expect to expand our product portfolio and diversify our customer base for the mobile market with our UFS, eMMC and custom solutions. Finally, our recent announcements of 3D flash products for the automotive and industrial markets will further expand our opportunities in these growing and more stable flash-based markets. I will now turn the call over to Bob for details on our financial performance.

Thanks, Mike. I also want to congratulate Steve on his upcoming retirement and look forward to helping to enable a seamless transition to the next CEO. I'm pleased to announce the revenue for the September quarter exceeded the high end of the guidance range we provided in July and non-GAAP earnings per share came in at the high end of the range. Revenue for the September quarter was $4 billion. This was up 11% sequentially as we experienced growth in Data Center Devices and Solutions and Client Solutions. Revenue was down 20% year-over-year as we faced a tough comparable quarter in fiscal 2019. By end-markets, Data Center Devices and Solutions revenue increased 20% sequentially and 6% year-over-year due to the success of our capacity enterprise drives for the data centers. Please recall that a year ago based on discussions with our customers we predicted that in the second half of calendar 2019 we would return to growth in capacity enterprise. We are experiencing that predicted rebound now. On a sequential basis Client Solutions revenue grew 18% on seasonally stronger flash bit shipments and a stronger flash pricing environment. Client Solutions revenue declined 4% year-over-year primarily due to reduction in hard drive TAM. Client Devices revenue was up 1% on a sequential basis and decreased 39% year-over-year. The year-over-year decline was a result of our decision to scale back flash bit shipments to the mobile market, flash price declines and a reduction in the hard drive TAM. By product category, flash revenue was $1.6 billion, up 8% sequentially and down 36% year-over-year. Flash ASPs were flat and bit shipments were up 9% sequentially. Hard drive revenue was $2.4 billion, up 13% sequentially and down 3% year-over-year; average price per hard drive was $81. Exabyte shipments were up 23% sequentially, hitting a new record level. As we move on to costs and expenses, please note all my comments will be related to non-GAAP results unless stated otherwise. Gross margin for the September quarter was 24.8% with a flash gross margin of 19.3% and our hard drive gross margin of 28.5%. We completed all of our cost of revenue reduction activities we outlined in January, resulting in a decrease of more than $100 million in quarterly spending. The hard drive gross margin was up slightly from the June quarter and we expect the December quarter hard drive gross margin to be approximately 30% as we fully realize the benefits of the cost reduction efforts. Flash gross margin was up on a sequential basis as we benefited from a better flash pricing environment. K1 fab cost was $64 million higher than expected. Excluded from the cost of revenue was a $68 million charge related to the power outage. Operating expenses were $767 million. Adjusting for a normal 13-week quarter, operating expenses were below the $740 million run-rate target. During the quarter we completed all of our operating expense reduction efforts announced in January. In addition, once we complete the exit of our storage systems business, we should start to see an approximately $25 million per quarter reduction in operating expenses beginning in the March quarter. Operating cash flow for the September quarter was $253 million and free cash flow was $294 million. Capital expenditures, which include the purchase of property, plant and equipment and activity related to flash ventures on our cash flow statement, were an inflow of $41 million. As previously noted, we are benefiting from the timing of the funds flowing back and forth between us and the joint venture. From a full fiscal year perspective, we continue to expect capital expenditures that will flow through our cash flow statement to be under $500 million. Total capital expenditures, which include our portion of joint venture leasing and self-operating funding, is expected to be similar to last fiscal year between $2.5 billion and $3 billion. In the September quarter, we distributed $147 million in dividends to our shareholders. We paid down debt by $319 million which included an optional $250 million debt pay down. As our cash generation continues to improve, our first priority will be to reinvest in the business to maximize long-term shareholder value. After paying our dividend our next priority will be to reduce our debt. At the end of the quarter we have $3.2 billion in cash and cash equivalents, our $2.25 billion revolver remains unused and our gross debt outstanding was $10.4 billion. Total inventory dollars were flat on a sequential basis, but higher than projected as a joint venture fab recovered faster than expected. This resulted in a sequential increase in flash inventory, particularly at the end of the quarter while hard drive inventory declined about $100 million sequentially. Moving on to the guidance. So again this is non-GAAP guidance and as follows. We expect revenue to be in the range of $4.1 billion to $4.3 billion. We expect gross margin to be approximately 25% to 26%. Please note that this range includes approximately $75 million in costs associated with the K1 fab. Operating expenses are expected to be between $750 million and $770 million, above the $748 million run-rate target due to higher variable compensation spending. We expect interest and other expense of $85 million and we expect the tax rate to be 26% plus or minus 2 points. As a result of this detailed guidance, we expect earnings per share between $0.45 and $0.65 assuming approximately $302 million in fully diluted shares. With that I will now turn the call over to the operator to begin the Q&A session. Operator, we'll now take our first question.

Our first question comes from Aaron Rakers with Wells Fargo.

Yeah, thanks for taking the question. And Steve, congrats on the retirement, has been great working with you. Two questions if I can, real quick. So first of all I guess one of the things that stands out a little bit is the capacity shipment number on flash up only about 9% sequential. By my math that's up maybe high single digits on a year-over-year basis. So can you talk a little bit about, it seems like the product portfolio is in a great position and ramping client SSD, capacity shipments were strong. I'm just curious why it seems a little bit muted as far as the capacity shipment trends in flash. And what's your expectation going into the December quarter for capacity ship?

So Aaron, let me address that. So the primary reason for that is really the point that I made and Bob made in our comments is we did not participate in a substantial way in the mobile marketplace in the quarter just completed. So that's the primary driver of bit shipment in the quarter.

And Aaron, recall—this is Steve. Recall that that lack of participation in the mobile market was by choice. From our standpoint, given that the profitability levels for that segment of the market weren't attractive, we chose to limit participation.

Okay, fair enough. And then as a second question on near capacity enterprise drives in the slide deck, you now expect the overall market to approach 30% year-over-year growth. I think last quarter you talked about growth meaningfully exceeding that 30% level. I know you guys are talking about north of 40% growth in your capacity shipments. But what's changed over the last quarter? Has there been a bit of a softening in terms of your expectation going into the December quarter? What's really driving that change of growth expectations?

So Aaron, I think for us, we actually updated our performance on the year. We originally had stated last quarter we'd be north of 30% for us. We updated that guidance north of 40. We're actually seeing strength in exabyte consumption across the capacity enterprise segment. Now the other thing that's happening for us is more unique is the power of the 14 terabyte product is doing quite well. And obviously we are gaining market share in that segment that's showing up on an exabyte basis.

It is under constraints in the market, which is tempering the overall market, the industry expectation?

No, I think we would suggest the industry will grow at north of 30%, we will grow at north of 40% and again that's all up from our last outlook on both numbers.

Okay, fair enough. Thank you.

Our next question will come from Mehdi Hosseini with SIG.

Yes, thank you. And Steve, good luck with your next endeavor and it was very nice working with you. Moving on to questions. Just to follow up, it's very helpful when you talk about exabyte shipment guidance, especially for the near-line, and as you look into next year, how do you see that exabyte shipment target changing? Again this is for 2020 versus 2019 and how should we think about the mix of the near-line exabyte as a percentage of the overall exabyte shipment for Western Digital?

Yeah, so let me just comment specifically on capacity enterprise. We would expect for 2020 our current outlook is about 35% year-over-year growth. So continued strength year-over-year.

And by the way, that 35% is consistent with our longer term expectations.

Sure. You kind of pre-into my prepared question by saying that you didn't participate in the mobile segment as it relates to your NAND shipment, and there is a debate as to what happens to that inventory in the channel reserved for mobile. As you look into the March quarter, how do you see the supply and demand in NAND looking into the March quarter? I'm not asking for a guide, I just want to better understand your view. You didn't participate in the market and in that context, how do you see your prices trending into the March quarter?

Yeah. So first off, as we indicated, we believe that we passed the trough in terms of the flash cycle. The overall inventory situation is improving; supply is getting much more aligned to demand, and we would expect that largely for ourselves and for the industry as we exit the December quarter that things will be fairly balanced. When you move into the March quarter and the first half of the year, one of the things that we have to keep in mind is that we will see a typical seasonal decline in demand. Supply is relatively linear. So we will have to, just like we do largely every year in terms of calendar cyclicality, manage through that. But then as we move to the back half of the year—this is the back half of calendar year 2020—we will see that begin to flip; demand will begin to improve and we will see, rather than modest improvement in our financial results, an accelerating improvement in our performance from a financial perspective as we move into the back half of calendar 2020.

Mehdi, I will just give you some numbers to work with there. We talked about low-30s on supply bit growth. We would expect demand for the calendar year to be slightly above that.

Great. Thank you.

Our next question comes from Karl Ackerman with Cowen.

Good afternoon. Thank you for taking my questions. And Steve again congrats on your retirement and best of luck in your future endeavors. Two questions if I may. Taking mobile for a moment, you referenced that mobile margins have not been attractive for the last two quarters but is that because you don't have captive DRAM? I guess, how important is that, is it for you to have either captive DRAM or a new long-term supply agreement for DRAM as you contemplate your competitive position in smart phones over time?

Yeah, let me answer that. So let me delineate mobile. There is the discrete and component part of mobile and then there is the MCP which includes DRAM. I think strategically, we do not see MCP as a long-term strategic place for us to operate. We're focusing our...

Ladies and gentlemen, please standby. Speaker?

Yes. Sorry, can you hear us now?

Yes, we can.

Okay, let me back up and repeat that. I don't know where we dropped off. Our mobile market participation, let me break into two components. One is the MCP business that includes DRAM, the second is discrete and component participation in mobile end-use applications. Strategically we've moved away from product investment in MCP and over the longer horizon it's not an area of product focus for us. So when we talk about participation, for us it's the discrete business, and we chose for economic reasons to minimize our participation as we had higher value places to put our bets. So we see sequential improvement and the economics in mobile improving along with other segments of the market.

That's helpful, Mike. As my follow-up shifting gears to gross margins for a moment. Clearly you and your peers are operating well below normalized run rates in NAND. At the same time so I think your outlook for hard drive gross margins are good but still a little bit below where we were roughly a year ago. I guess will the exit of the systems business be the primary driver for gross margin improvement in hard drives, and how do we think about the margin implications from the incremental disk and heads on those higher capacity drives? Thank you.

Yeah, so I'll address that. And then Bob and Mike can join in and add any additional color. So the first thing is the exiting of the systems business will have no material impact one way or the other on our gross margins. If you look at our hard drive gross margins, although good, are not where we want them to be. We want those hard drive gross margins to be north of 30% in the low-30% range. We are still dealing with some of the cost overhang of exiting our legacy manufacturing facility. That is now behind us. And so we should see our drive margins improve into that low-30% range as we exit the December quarter and then obviously, our intent is to sustain and possibly improve that over a period of time. Flash gross margins are clearly not where we want them to be. They are improving albeit at a slow rate. We would continue to expect as we see this sort of ripple through the market—because different customers started at different levels, different market segments— the pace of that improvement is not linear for all of those aspects. But we'll continue to see steady improvement in our flash margins this quarter and then into subsequent quarters. And as I indicated earlier, we expect that improvement to accelerate as we move into the second half of calendar 2020.

I'll just add that we've completed the operating expense and cost of revenue actions that we outlined earlier in the year, and the hard drive margins should benefit from those actions and improved mix as capacity enterprise becomes a larger portion of the business.

And the other thing I would add, Karl, is if you look out over time we expect more and more growth in terms of capacity enterprise becoming a bigger percentage of our overall mix and that will help the margins go up as well.

Thank you, gentlemen.

Our next question comes from Mark Delaney with Goldman Sachs.

Yes, good afternoon. Thank you for taking the question. I have follow-ups around gross margins and maybe to better understand the outlook for NAND and to get the guidance for margins to improve somewhat next quarter. Could you clarify what you're assuming around ASPs on a like-for-like basis given the comments about a cyclical bottom?

Yeah, I can start. And first of all, I want to remind you on the NAND side we do have a headwind with the K1 startup costs and bringing up that fab as we are beginning production there. But there is probably in the neighborhood of a three-point headwind that we're faced with on the NAND side. As we ramp volume, then obviously margins will improve, everything else being equal. So in terms of flash overall as we get to equilibrium between supply and demand, we're definitely expecting that pricing will get better as we move through 2020. It will take a little bit of time to work through that, but the trajectory is toward improved pricing and margins.

Okay. Thanks, Bob. And then my follow-up was on the hard drive gross margin again along the lines of the prior questioning. I had been under the impression that for the December quarter hard drive gross margins could hit 30% especially given the upside that the company has seen in the near-line business, which typically runs at least 30%, if not higher. Is there anything in terms of increased headwinds around gross margins that would keep hard drive gross margins under 30% for the December quarter, or was that a wrong impression?

Let me be clear on this: our intent is to have gross margins north of 30% for our hard drive business this quarter, the December quarter. There's nothing at present that indicates we won't hit that level.

And if you look out over time, as capacity enterprise grows as a percentage of our mix, that will help margins continue to improve.

Got it. That's it, thank you very much. And Steve, good luck with your future endeavors.

Our next question comes from Mitch Steves with RBC Capital Markets.

Hey guys, thanks for taking my question. I have one on the NAND inflection. A lot of people are looking for kind of like $0.80 or even $1 for an inflection in the December quarter given the improving memory environment. Can you help us understand how much leverage you're going to get on the gross margin side over the next three or four quarters? I'm trying to understand the comment about seeing a more material inflection in the back half of 2020.

So a couple of things. When we look at where we started from, all end markets in flash were not created equal relative to pricing and margin. We also noted that mobile was an inferior-performing segment for us and we took a bit less participation in that segment earlier. We're taking more of that on this quarter as a percentage of the total, so that's a headwind for flash margins in the current quarter. For 2020, we see supply and demand in pretty good shape as we come into the year. We will have to manage through typical seasonality in the first half, and as the year progresses—heading towards the back half of calendar 2020—we expect the rate of margin improvement in flash to accelerate.

Okay. And in terms of NAND gross margin, could that get back to the 30s in the back half of 2020? Any rough metric would be helpful.

We are not providing guidance beyond what we've given, but I'll tell you where we want to get to: back to where flash gross margins are in that 40% range. That's a margin level we view as attainable over time and it's a level required to get sufficient return on the capital we're investing in this business. That's where we want to head.

Okay. That's very helpful. Thank you.

Our next question comes from CJ Muse with Evercore.

Yeah, thanks for taking the question. I have another question on gross margins, specific to NAND. Can you quantify the K1 fab costs in the September quarter? I think you said $75 million in the December quarter—how should we think about that progressing into 2020? And then on the flash bit side, it looks like implied bit growth of only about 9% in the quarter. So it looks like you're really growing about 19% to 20% for the year versus many competitors suggesting low-30s for the industry. Is that a function of deciding not to play in mobile, not having the right bids, or something else?

Let me address the last question first. We took a meaningful amount of production offline starting earlier this year because we saw oversupply conditions and decided to reduce bit output to help offset industry oversupply. That reduced production was an intentional action to avoid contributing to the price decline experienced in the industry starting in late 2018 and into 2019.

In terms of the K1 costs in the September quarter, they were $64 million, and in our guidance we expect that to be in the neighborhood of $75 million in the December quarter. We expect those costs to start coming down over time as production ramps and absorption improves, but this is new production capacity we're bringing online and it will become part of our fixed cost base over time.

One other comment is that from a bit capacity output basis, our proximity ratio to others remains similar; this was simply us choosing not to produce very low-margin product for a period of time for the reasons Steve outlined.

It makes sense. Thank you.

Our next question comes from Steven Fox with Cross Research.

Excuse me, good afternoon and sorry for another gross margin question. In terms of the mix impact on NAND gross margins, can you talk about how mix is affecting the gross margin guidance for the current quarter versus what you just reported? And along similar lines, you mentioned incremental growth next year from next generation gaming and industrial—can you talk about their mix impact on gross margins? And given what you said about the first half of calendar year, are you able to at least hold gross margins around current levels or might they backtrack a little depending on bidding and where you choose to place supply?

I'm going to address the last question first. We would expect that our profitability levels, from a margin percentage standpoint, will continue to modestly improve as we move into the first half of the year.

Let me just reiterate: within the flash business we're taking on a greater proportion of mobile business this quarter, which is a margin drag and is dampening our sequential margin performance to some degree. Also, startup costs for K1 are affecting margins. When we go into 2020, a number of the new markets—gaming, industrial, automotive—will be good bit consumers and will likely have attractive and more stable margins.

Bob already indicated that the K1 costs are roughly a three-point drag. Neutralize for mix and that headwind, and you'd see a more satisfying sequential improvement in flash margins. The trajectory is in the right direction; it's just that other moving parts can mask the improving trends.

Got it. And Steve, congratulations on all your accomplishments at Western Digital. Thanks.

Our next question comes from Sidney Ho with Deutsche Bank.

Okay, great, thanks. Maybe one more question on the flash side. I know you talked about strategically walking away from certain mobile mix. Can you remind us your mix within the NAND flash business today and how you think that will change a year from now? Is there more tailwind coming from this mix change, and what are the areas that have better margins or are more valuable than the average for the business?

We don't disclose the exact ratio of flash participation by end market. I can give color on relative performance. Areas we are emphasizing and where we want to grow participation include enterprise SSDs and industrial embedded; both have higher overall margins than the average and are good long-term opportunities. We're also focusing on higher-end mobile segments with UFS and other higher-performance parts of the market. We emphasize quality of revenue and are seeking higher margin, more stable end markets.

Great. My follow-up is on the hard drive question. Last earnings call you talked about introducing 16 terabyte CMR and 18 terabyte SMR, but you ended up launching a higher capacity about two months later. Can you talk about why you made that change in the roadmap and what kind of feedback you're getting from customers so far?

The reason we moved faster on the roadmap is simple: we made faster progress on our nine-platter platform than previously anticipated. Mechanical and design advancements allowed us to pull that platform in sooner, which was favorably received by customers.

A number of dimensions make this positive for customers: it gets them to 18 and 20 terabytes sooner, improving total cost of ownership when you combine cost per bit and slot tax benefits. The unified platform simplifies qualification and reduces time to market. Getting to an 18 terabyte CMR and 20 terabyte SMR earlier provides significant value to our customers.

Our next question comes from Ananda Baruah with Loop Capital.

Hi, thanks guys for taking the questions. And Steve, congrats as well. For me I know we have a little more time with you, but it's certainly been appreciated. I do have a gross margin question but I'll start with a hyperscale clarification. So first a clarification: the comment earlier in the Q&A about 35% growth for calendar 2020 year-over-year, was that your capacity enterprise outlook for calendar 2020?

No, that's total capacity enterprise including hyperscale and OEM consumption of that class together.

Thanks for that. Could you update us on what this hyperscale cycle might look like? I think you made some comments the last couple of quarters.

We continue to see strength in the cycle into the end of the first half of calendar 2020. We don't want to extend that further beyond what we've shared; our guidance supports the 35% year-over-year capacity enterprise growth for 2020.

And is the incremental strength that pulled into this year a bit stronger than you thought? Does that point to sustainability as we move into the March quarter?

It would point to sustainability through the end of the first half of calendar year 2020.

Okay, that's great. And then just quickly on flash gross margin—so as we think about the different layers of the headwind that could roll off, it sounds like there's the mobile mix and that roughly three-point K1 fab headwind. As you participate more in mobile later, will the mobile headwinds diminish in incoming quarters before we get the inflection in a few quarters? Will K1 costs also gradually roll off until we get into the September quarter? I just want to make sure I'm understanding appropriately. Thanks.

So K1 is just beginning production in that fab and we will see gradual improvement in absorption over the next few quarters and eventually it will be fully absorbed into our cost structure. That will be a gradual process.

The other drivers are product and customer mix. We're continuing to expand the product portfolio and increase participation in higher-quality revenue segments like enterprise SSD and higher-end mobile markets. Think of it as improvements in customer and product mix over time.

Our next question comes from Vijay Rakesh with Mizuho.

Hi, thanks guys, congrats Steven, and good luck with your next endeavors. Just on the flash side, going back to gross margin, as you look at the first half, do you expect to step up exiting some of the mobile segments and what kind of margin improvement should we expect on the flash side as you move more into SSDs and less price-sensitive markets? And same question on the hard drive side.

Let me clarify: we have not exited the mobile market. We chose not to participate in certain segments of the mobile market for a period of time because the margins were not attractive. As we see the pricing environment begin to stabilize and improve, consistent with improving supply and demand dynamics, we will increase our participation in that market starting this quarter.

Got it. And on the hard drive side you talked about 16 and 18 terabyte products; can you give color on when you expect to ramp those products through 2020?

We said we're sampling those in the current quarter and we expect to ramp them in the first half of calendar 2020.

Our final question today comes from Nehal Chokshi with Maxim.

Thank you. For verification and education purposes, what is the NAND flash industry typical seasonal peak in terms of bit demand from a monthly perspective?

Well, it's the old adage that the best quarter of the year is October, November and December. I don't know literally which month peaks, but that quarter is the strongest seasonally.

Okay. And Mike, I think you made a comment that the exabyte loss from the power outage turned out to be about four exabytes, but you still expect the excess inventory industry-wide would be flushed out by the end of this year. Given that lower exabyte loss, have you seen better demand than expected over the past three months?

In general, our bit consumption and demand has been at or well above what we thought. Our comments that industry inventories would be substantially improved by the end of the year remain accurate.

And what's been the driver of that better-than-expected demand for NAND flash bits?

We've seen a slightly better mix in terms of capacity per unit, and some end markets have been more robust than we originally expected, including mobile.

Alright, thank you.

Speakers, I'm showing no further questions in the queue. I'd like to turn the call back over to management for any closing remarks.

All right. Thank you for joining us today. I would also like to extend a thank you to all of our employees, customers and business partners. We look forward to a successful year together. Have a great rest of the day.

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