Western Digital Corp (WDC) — Q2 2026 Earnings Call Transcript

Thank you, and good afternoon, everyone. Joining me today are Irving Tan, Western Digital's Chief Executive Officer; and Kris Sennesael, Western Digital's Chief Financial Officer. Before we begin, please note that today's discussion will contain forward-looking statements based on management's current assumptions and expectations, which are subject to various risks and uncertainties. These forward-looking statements include expectations for our product portfolio, our business plans and performance, ongoing market trends and our future financial results. We assume no obligation to update these statements. Please refer to our most recent annual report on Form 10-K and our other filings with the SEC for more information on the risks and uncertainties that could cause actual results to differ materially from expectations. In our prepared remarks, our comments will be related to non-GAAP results on a continuing operations basis, unless stated otherwise. 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 at investor.wdc.com. Lastly, I want to note that when we refer to we, us, are or similar terms, we are referring only to Western Digital as a company and not speaking on behalf of the industry. With that, I will now turn the call over to Irving for introductory remarks. Irving?

Thanks, Ambrish, and good afternoon, everyone, and thank you for joining us today. The growth and impact of AI continues to accelerate across numerous industries. As generative AI models become the norm and agentic AI scales to drive business productivity, it is clear that AI is becoming a true strategic enabler of business transformation. AI inference has also begun to take hold in many ways becoming the true AI workload with deployment to chat bots and virtual assistants and customer relationship management tools. Further innovations in physical AI are also accelerating quickly, generating increasingly larger multimodal models propelled by advancements in autonomous vehicles and robotics. In all cases, it is data that is needed to fuel the entire AI process from training to inference to enable stronger models and sharper inference results. And as more data is generated and the value of data increases, the demand to store it is expanding at a rapid rate. As AI capabilities expand, cloud continues to grow as well, and both are driving the surge in demand for higher-density storage solutions. In this new era where AI and cloud dominate, Western Digital has taken a customer-focused approach to managing the strong demand by working closely with our hyperscale customers, ensuring that we deliver reliable, high-capacity drives at scale to give them the best performance and total cost of ownership. We are doing this by continuing to focus on increasing our drives' areal density and accelerating our HAMR and ePMR road maps as well as upshifting our customers to accelerate adoption of higher capacity drives and UltraSMR technology. This last quarter, we shipped over 3.5 million units of our latest generation ePMR products, offering up to 26 terabyte CMR and 32 terabyte by UltraSMR capacities, representing strong confidence and adoption by our customers. We have also started qualification of our HAMR and next-generation ePMR products, each with a different hyperscale customer. These drives will offer our customers the higher capacity and improved total cost of ownership that they are looking for. In addition, we continue to accelerate our HAMR innovation. To support this, we recently acquired intellectual property assets and talent that will help us in the development of our internal laser capabilities. Also, this past quarter, in partnership with software ecosystem partners, we announced our UltraSMR-enabled JBOD platforms, expanding UltraSMR adoption to a broader customer set. These platforms deliver significantly higher storage density compared to conventional drives, giving customers hyperscale-like performance and making mass scale data analysis more sustainable and efficient. We are truly seeing our approach resonate with our customers, and this is reflected in longer-term agreements and better visibility into their requirements. We have firm purchase orders with our top seven customers through calendar year 2026. We also have in place robust commercial agreements with three of our top five customers, two through calendar year 2027 and one through calendar year 2028. These agreements indicate a strong trust that we have built with our customers and confidence in our ability to meet their exabyte needs. We are hosting an Innovation Day on February 3rd in New York next week, where we will share updated road maps for our HAMR and ePMR products as well as further details on core innovations that we are developing to improve our drives' performance, energy efficiency and throughput. Looking ahead, we see our positive momentum continuing and we will remain focused on supporting our customers' exabyte storage requirements while completing qualifications and launching our next-generation HAMR and ePMR drives. I will now hand it over to Kris to share our Q2 results and outlook for Q3.

Thank you, Irving, and good afternoon, everyone. Western Digital delivered another quarter of strong financial performance, reflecting disciplined execution across our organization and our ability to meet the customers' growing demand in the AI-driven data economy. During the second quarter of fiscal 2026, revenue was $3 billion, up 25% year-over-year, driven by strong demand for our nearline drives. Earnings per share were $2.13. Both revenue and EPS were above the high end of the guidance range. We delivered 215 exabytes to our customers, up 22% year-over-year. This includes over 3.5 million drives or 103 exabytes of our latest generation ePMR with capacity points up to 32 terabytes. Cloud represented 89% of total revenue at $2.7 billion, up 28% year-over-year, driven by strong demand for our higher capacity nearline product portfolio. Client represented 6% of total revenue at $176 million, up 26% year-over-year. Consumer represented 5% of revenue at $168 million, down 3% year-over-year. Gross margin for the fiscal second quarter was 46.1%. Gross margin improved 770 basis points year-over-year and 220 basis points sequentially. The improved gross margin performance reflects continued mix shift towards higher capacity drives and tight cost control in our manufacturing sites and throughout the supply chain. Operating expenses were $372 million. As a percentage of revenue, operating expenses declined 120 basis points sequentially, primarily due to operating leverage in the model. Operating income was slightly above $1 billion, translating into an operating margin of 33.8%. Interest and other expenses were $45 million, and our effective tax rate in the fiscal second quarter was 15.1%. Taking into account the diluted share count of 378 million shares, EPS was $2.13, an increase of 78% year-over-year. Turning to the balance sheet. At the end of our fiscal second quarter, cash and cash equivalents were $2 billion and total liquidity was $3.2 billion, including the undrawn revolver capacity. Debt outstanding was $4.7 billion, translating into a net debt position of $2.7 billion and a net leverage EBITDA ratio of well below 1 turn. Operating cash flow for the fiscal second quarter was $745 million, and capital expenditures were $92 million, resulting in strong free cash flow generation of $653 million for the quarter, which reflected a free cash flow margin of 21.6%. During the quarter, we made $48 million of dividend payments and increased our share repurchases to $615 million, repurchasing 3.8 million shares of common stock. Since the launch of our capital return program in the fourth quarter of fiscal 2025, we have returned $1.4 billion to our shareholders by way of share repurchases and dividend payments. Also, today, we announced that our Board has approved a quarterly cash dividend of $0.125 per share of the company's common stock, payable on March 18, 2026, to shareholders of record as of March 5, 2026. I will now turn to the outlook for the third quarter of fiscal 2026. We anticipate revenue to be $3.2 billion, plus or minus $100 million. At midpoint, this reflects a growth of approximately 40% year-over-year. Gross margin is expected to be between 47% and 48%. We expect operating expenses in the range of $380 million to $390 million. Interest and other expenses are anticipated to be approximately $50 million. The tax rate is expected to be approximately 16%. As a result, we expect diluted earnings per share to be $2.30, plus or minus $0.15 based on a non-GAAP diluted share count of approximately 385 million shares. To wrap up, Western Digital achieved another strong quarter with performance ahead of expectations. Our guidance for the next quarter underscores continued favorable trends in our business alongside our disciplined approach to free cash flow, capital returns and long-term value creation for shareholders. With that, let's now begin the Q&A. Ambrish?

Thank you, Kris. Operator, you can now open the line to questions, please. To ensure that we hear from as many analysts as possible, please ask one question at a time. After we respond we will give you an opportunity to ask one follow-up question. Operator?

And I will stick to one, Ambrish. On the gross margin line, the guidance that you're giving for 47% to 48%, I guess the back of the envelope math would suggest that you're maintaining what looks to be like a 70%, maybe 75% incremental margin flow-through. So, I guess, my question is, how do you think about the durability of that incremental margin? Or maybe taken another way, how do you think about the cost curve down on a per terabyte basis as we look out over the next, call it, several quarters?

Yes, Aaron, thanks for your question. And so, first of all, I'm really happy with what's going on with the gross margin. We delivered 46.1% gross margin, up 220 basis points quarter-over-quarter, up 770 basis points year-over-year. And we are guiding to 47%, 48%, so 47.5% at the midpoint, which is up 740 basis points on a year-over-year basis. And Aaron, I think your math is working. The incremental gross margin is on or about 75%, depending on how you look at it on a year-over-year basis or a quarter-over-quarter basis. So I've stated before, I'm very comfortable with an incremental gross margin higher than 50% and definitely 75% is higher than 50%. I mean in gross margins, there's two sides to the equation. On one hand, you have the pricing environment. On the other hand, you have the cost environment. In pricing, I've talked about that before. We see a stable pricing environment with prices on a price per terabyte kind of flattish to slightly up. Actually, last quarter, it was up 2%, 3% on an ASP per terabyte basis. So that clearly demonstrates the value that we continue to deliver to our customers. And on the cost front, the teams continue to execute really well. We continue to upshift our customers to higher capacity drives, which gives us a cost benefit. And then there is great execution as well on driving down the cost in our manufacturing assets as well as throughout the supply chain. And when you look at it last quarter, the cost per terabyte was coming down on or about 10% on a year-over-year basis. And so when you put this all together, we continue to drive further gross margin expansion. And we believe in the next couple of quarters and beyond, we will continue to be able to do that.

Irving, considering the tightness in the HDD market and the significant inflation affecting NAND, can you discuss your strategy in delaying purchase orders further into calendar '27 to achieve better economics compared to your approach to signing POs last year? Is this impacting the economics you're able to obtain? Thank you.

Yes, thanks, Erik. As we highlighted, we're pretty much sold out for calendar '26. We have firm POs with our top seven customers. And we've also established long-term agreements with two of them for calendar year '27 and one of them for calendar year '28. Obviously, these LTAs have a combination of volume of exabytes and price. And in relation to pricing, I think first, it's important to recognize that our customers actually have value that there's actually a structural shift in the value that we deliver to them, especially in the impact that we have to their total cost of ownership as the business moves more and more towards inference where monetization is happening. So, in this case, the pricing that we've provided there reflects the value that we're delivering to them. And so as Kris mentioned, we continue to see going forward, a stable pricing environment that gives us an opportunity to continue to extract more value as we deliver both better TCO value to our customers and to better support their supply-demand needs as well through higher capacity drives.

Do you have a follow-up, Erik?

Sure. Just very quickly, Kris, would just love to know how you're approaching the SanDisk share ownership. Do you still plan to monetize before, I think it's the February 21 deadline? And more importantly, how do you expect to leverage those proceeds?

Yes, Erik. As you probably know, we still have 7.5 million SanDisk shares, and it's our intention to monetize those shares before the one-year anniversary of the separation, likely in a similar transaction that we have done before, meaning it's a debt for equity swap. And so the proceeds will be used to further reduce the debt.

I guess could you speak to how customer engagement and contracts are evolving in this very tight environment?

Thank you for the question, C.J. Over the past year, we have focused on developing a more customer-centric approach. We have organized our teams around our major hyperscale customers, which has strengthened our relationships with them. This has improved our collaboration on technology roadmaps and enhanced our understanding of their demand requirements, leading to longer-term agreements. We are excited to showcase innovations that support AI workloads at our Innovation Day next week. The relationship has definitely improved, and our customers recognize the value we bring, which is reflected in the pricing structures and the long-term contracts we are establishing. Our goal is to create a fair value exchange and provide predictable pricing, as our customers are concerned about the volatility in some storage tiers. We aim to ensure sustainable value creation for both parties.

Yes, sorry about the numbers. I guess just to follow on the SanDisk share comment. Can you talk about your plans thereafter? Are you going to focus more so on share repurchase or other?

Well, we are already focusing on share repurchases since we've announced the $2 billion share repurchase authorization in May of 2025. We already have repurchased $1.3 billion or we have used $1.3 billion of that program, repurchasing on or about 13 million shares, and there is no hesitation. We will continue to use that program.

This is Aisling Grueninger on for Wamsi. Congrats on the results, guys. Just one question for me. minds on the mix of UltraSMR. Just given your order book LTAs, how is this mix trend on UltraSMR trending? And how does this mix shift play a role kind of as a driver of gross margins moving forward?

Yes. That's a really great question, Aisling. Thank you for that. Well, last quarter, we crossed on the nearline portfolio, a 50% mix on UltraSMR, and we actually see that increasing. As we've highlighted, one of the things that we're doing to better support the growth in demand from our customers is really to upshift them to higher capacity drives. A big part of that is the upshift to UltraSMR-based drives, and we see more and more customers adopting UltraSMR. We have our top three customers fully on board with UltraSMR drives already today, and we have another two to three more that are moving into a process of adopting UltraSMR. So we are likely to see the UltraSMR mix of our total nearline exabyte base continue to increase going forward. That's actually very important for us because, one, we are better able to serve our customer demand needs. As you recall, UltraSMR gives a 20% capacity uplift over CMR and a 10% capacity uplift over the standard industry standard SMR. But equally important from a gross margin standpoint, UltraSMR is a software-based solution. So it's very accretive for us from a margin standpoint as well. So a higher shift higher mix of UltraSMR is definitely going to be beneficial both to our customers and to our ongoing profitability as well.

And Aisling, one thing in Irving's prepared remarks, we mentioned the JBOD that we have launched, which also expands our UltraSMR customer reach beyond what we have been targeting so far. So thanks for your question. Maybe we go to the next question, please.

It's Mike Cadiz at Citi for Asiya today. I have a question and possibly a follow-up. First, could you provide any insights on yields and reliability? I know that these are points that Irving has mentioned over the past few quarters in relation to the multiple rollouts. Are there any implications for cost per bit declines that we should consider?

Yes. Thanks for the question, Mike. So our yields on our ePMR products continue to be very, very positive. They continue to be yielding very well in the low 90s percentage yield range. And obviously, from a reliability and quality standpoint, we received very good feedback from our customers. The fact that we've been able to, last quarter, deliver over 3.5 million units of our flagship ePMR drives is a testimony to the confidence that they have in terms of the reliability and the quality. In terms of the cost related to the cost down, obviously, as we get yields up, costs continue to decline as the UltraSMR mix goes up within those new products as well, that's also going to be a driver of cost down as well.

Okay. Do you have a follow-up?

I did. So can you talk more about any progress or the progress from your Rochester test and integration site how you're leveraging perhaps those efforts to accelerate maybe in the existing customer transitions?

One update we shared earlier is that we have accelerated our HAMR qualification, moving it to the first half of calendar '26. We began qualification of those drives this month for HAMR. Additionally, we've also started qualification for our next-generation ePMR drives. Our Rochester SIT Lab is crucial in ensuring a smooth and efficient qualification process. It’s also important that as these products move into production, they maintain the reliability and quality that our customers have come to expect from previous generations. We’re excited to share more details on February 3rd during our Innovation Day, where we will present updated road maps for both our ePMR and HAMR portfolios. We look forward to sharing more exciting news next week.

This is Hannah on for Amit. I was just wondering, are there any notable investments related to HAMR that are currently flowing through COGS or operating expenses? And should we expect those costs to roll off or normalize as HAMR begins to ramp?

Yes, we have been working on HAMR for the last 10 years, and the engineering teams are making good progress. So there is no change there. We will continue to work on those programs, and we will, in general, continue to innovate and make performance improvements to our programs, continue to drive higher capacity drives and those investments will continue. As it relates to the gross margin, we haven't started the HAMR ramp yet, but we are confident once we start ramping HAMR that will be neutral to accretive to our gross margins.

Yes. Maybe just to add on to what Kris said, even with the HAMR ramp that we anticipate will happen at the start of calendar year '27, our CapEx as a percentage of revenue on a run rate basis will still be within the 4% to 6% range.

Did you have a follow-up?

No.

Rose mid-teens in 2025 and is projected to advance double digits again in 2026 as agentic AI is supposed to drive a cyclical recovery in front-end conventional servers. But in your case, because hard drive units are highly correlated to demand for conventional servers, and you're also seeing a content uplift from these new drives. Do you believe Agentic AI demand can enable you to exceed your long-term exabyte growth CAGR of low 20s?

Thanks for the question, Karl. We've definitely observed exabyte growth in the low 20s over the past few quarters, as you mentioned. As the AI value transitions from model training to inference, we expect that more data will be generated to support inference delivery, which will also require additional data storage. To effectively deliver inference at a cost structure that encourages mass adoption, a significant portion of the generated data will be stored on hard drives, as we have noted previously. Hyperscalers excel at managing the economics of data across different storage tiers, including SSDs, HDDs, and tape. Based on our discussions with customers, it’s clear that inference will significantly increase the demand for data storage, which is a positive outlook for HDDs in the future.

Do you have a follow-up, Karl?

If I may, Ambrish, just going back to HAMR, it sounds like you've pulled in the progression of HAMR, at least your first primary customer. Can talk about the interest beyond your initial customer given the robust hyperscaler demand for exabyte capacity?

Yes. Thank you for the question, Karl. As we have mentioned, we are beginning qualification in the first half of this year. We have already started this process with one hyperscale customer this month, and we will be starting qualification with another hyperscale customer fairly soon.

Just a follow-up on some of the comments from the preamble about acquiring some IP, I think, on the laser side. Could you maybe give us a little more detail on that, maybe the size of the purchase? And then what in particular you needed to add on the laser side that you felt like you need to go out and do a deal?

Thank you for the question. Unfortunately, we can't share too much about the specifics of the deal as its terms are confidential. However, we are excited about acquiring this technology and will provide more details at our Innovation Day next week. I can say that this acquisition will allow us to use less real estate in the drive, which will enhance manufacturability and reliability. Additionally, this innovative technology will also lower the energy requirements for the lasers compared to conventional laser diodes. We are very enthusiastic about both the intellectual property and the capabilities we have gained.

Do you have a follow-up, Tom?

I do. With NVIDIA's addition of the KV cache offload and the NAND attach that's thought to go with that, I was curious if you guys have been engaging with any large hyperscalers or any large procurers of storage for any kind of solution that would maybe attach on to custom silicon deployment, say, something that brings the hard drive a little bit closer to some of the accelerators, if there's a road map for those or if you're engaging in that way with any customers?

Thank you for the question. The initiative that NVIDIA is pursuing is aimed at enhancing inference capabilities. As I mentioned, this will lead to a significant increase in the speed and amount of data being generated. This, in turn, will necessitate a greater demand for storage, where HDDs are particularly advantageous due to their cost-effectiveness. We are also focusing on innovative ways to enhance both the bandwidth and throughput of our drives, and we look forward to sharing more details with you next week.

Kris, pretty phenomenal numbers here. Just a quick question on the HAMR side. Are you expecting to pull in the HAMR road map time line given how tight supply is, et cetera?

Yes. We've pulled in the qualification already by half a year. And we've started the qualification process with one customer. As I just mentioned earlier to Karl's question, we will be starting a qualification with a second customer imminently on qualification. Obviously, getting HAMR and higher capacity drives to our customers are a key part of the approach that we're taking to meet the strong demand for exabytes from our customers on HDD. But it's also very important to remember, we also have started the qualification of our next-generation ePMR drives. And those products have shown the ability not only to deliver very high capacity per drive, but also to be able to support a high degree of scalability and manufacturability where we are able to deliver large volumes of drives to our customers. So last quarter, we delivered over 3.5 million drives, and this quarter, we're looking to deliver close to 4 million drives.

Got it. And then on the gross margin trajectory, I guess, with the incremental 50% drop-through, when you look at HAMR ramps, any thoughts on how we should look at those margins? I guess you might call it on the Innovation Day, but any preliminary thoughts there?

Yes. I mean, as we've consistently highlighted, we see the transition once HAMR gets to the same scale as our ePMR portfolio, the gross margins for HAMR will be neutral to accretive from what we have with ePMR.

I was wondering if you could maybe talk about the revenue per exabyte in the quarter compared to last quarter and a year ago in the sense that how much of the change quarter-over-quarter and year-over-year is related to change in mix? And then I had a follow-up, if I could.

Yes. Maybe I can start off here, and Kris might want to add in. Look, the big driver of our sort of revenue per exabyte both year-on-year and quarter-on-quarter is related to our cloud segment. So, our big hyperscale customers, we see very strong demand from that segment. So, obviously, that's driving a lot of the bits and the revenues associated with that. And in that segment, as Kris has highlighted, the pricing is stable. So, in fact, it was up single digits last quarter and year-on-year as well. So that's a positive trend that we continue to see, and that's going to be a growth driver for the business for the year and probably for the next two years as well.

Yes. Well, last quarter, we delivered 215 exabytes, right? That was up 22% year-on-year. And again, a lot of it is being driven by our cloud portfolio. As we've highlighted, we shipped over 3.5 million units of our current ePMR products that go up to 32 terabytes. So it's a clear recognition of the stability, quality and scalability of that product. So we will continue to do that, and we look forward to ramping the next generation of ePMR and HAMR in the coming quarters to better support the customer demand.

On cost down, you mentioned that I think, Kris, the December quarter was 10% year-over-year down. And with UltraSMR becoming a larger portion of the ship and then with HAMR coming on sort of margin neutral to positive, do you think that cost down, I think it's classically been about 10% year-over-year. Do you think that can increase in coming years, cost out increasing per exabyte ship?

Yes. So, currently, it's on or about 10% cost per terabyte or exabyte reductions. Obviously, we will continue to innovate, continue to push to higher capacity drives, continue to upshift our customers to adoption of those higher capacity drives, including UltraSMR. And all of those actions will lead to further cost reductions on a cost per terabyte. I think it's fair to say that's on or about 10% is a good number. And as we potentially accelerate our road maps, we could potentially drive that higher.

That's super helpful.

Do you have a follow-up, Ananda?

Yes, quick. This may be one for next week actually. But just interested in understanding how far up the areal density stack do you think you can get CMR and UltraSMR before you really get HAMR going?

Yes. I think that's something we are looking very much forward to sharing with you next week. So we look forward to seeing you there.

This is Eddy for Krish. You mentioned you had three LTAs for 2027 and 2028 that are volume and not price based. I do wonder what is the reason these contracts are not locked in price, especially given the very tight supply? Is it the customer who prefer not to lock in price? Or is it you guys who prefer to have the flexibility? Any high-level color would be helpful.

Yes. Thanks for the question. Just to clarify, we have two customers that have LTAs through calendar year '27, one customer that has an LTA through calendar year '28. These LTAs have both price and volume conditions in them.