VMware Inc

NYSE:VMW

Good day and welcome to the VMware Fourth Quarter Fiscal Year 2022 Earnings Conference Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Paul Ziots. Please go ahead.

Good afternoon, everyone, and welcome to VMware's Fourth Quarter and Fiscal Year 2022 Earnings Conference Call. On the call, we have Raghu Raghuram, Chief Executive Officer; and Zane Rowe, Executive Vice President and Chief Financial Officer. Following their prepared remarks, we will take questions. Our press release was issued after the close of market and is posted on our website where this call is being simultaneously webcast. Slides which accompany this webcast can be viewed in conjunction with live remarks and downloaded at the conclusion of the webcast from ir.vmware.com. On this call today, we will make forward-looking statements that are subject to risks and uncertainties. Actual results may differ materially as a result of various risk factors described in the 10-Ks, 10-Qs and 8-Ks VMware files with the SEC. We assume no obligation to and do not currently intend to update any such forward-looking statements. In addition, during today's call, we will discuss certain non-GAAP financial measures. These non-GAAP financial measures, which are used as measures of VMware's performance, should be considered in addition to, not as a substitute for or in isolation from GAAP measures. Our non-GAAP measures exclude the effect on our GAAP results of stock-based compensation, employer payroll tax on employee stock transactions, amortization of acquired intangible assets, realignment charges, acquisition, disposition, certain litigation matters and other items as well as discrete items impacting our GAAP tax rate. You can find additional disclosures regarding these non-GAAP measures, including reconciliations of comparable GAAP measures in the press release and on our Investor Relations website. The webcast replay of this call will be available for the next 60 days on our company website under the Investor Relations link. Our first quarter fiscal '23 quiet period begins at the close of business, Thursday, April 14, 2022. With that, I'll turn it over to Raghu.

Thanks, Paul. Good afternoon and thank you for joining us. Q4 was a solid end to a good fiscal year. Revenue for the fourth quarter was $3.53 billion, an increase of 7% from the fourth quarter of fiscal year '21. Revenue for fiscal year '22 was $12.85 billion, an increase of 9% from fiscal year '21. We are at an exciting time in our industry as organizations large and small transform and modernize to become software-based digital enterprises. This transformation is characterized by an explosive growth in new business applications and new digital experiences delivered from the cloud, from the data centers and from the edge to employees and consumers on diverse smart devices. This emerging distributed world of computing is what we call multi-cloud, and it is the next phase of enterprise technology. We aspire to be the leading platform vendor of this multi-cloud era, enabling businesses and organizations to build, run and secure their applications powering their transformation. We are pleased with the progress we have made over the past 12 months to capture this opportunity. At the start of the fiscal year 2022, we highlighted the focus areas that will help drive our customers' innovations and continue to drive value for our shareholders. The first is a focus on accelerating multi-cloud innovation and offerings, which we have begun through the delivery of our VMware Cross-Cloud Services, a set of integrated SaaS offerings designed to deliver customers a faster and smarter path to the cloud. Second is a focus on accelerating our subscription and SaaS offerings. We have made strong progress here, including the launches of VMware Cloud Universal and vRealize Cloud Universal. At the end of fiscal year '22, our revenue from subscription and SaaS offerings rose to 25% of our overall revenue. Third is a successful completion of our spin-off from Dell Technologies to become a stand-alone company, positioning us well to become the Switzerland of this new multi-cloud industry. Fiscal year '23 is an important year in our transformation. The progress we will make this year will position us to drive accelerated growth in fiscal year '24 and beyond. During fiscal year '23, we expect to achieve our goal of making all of our major products available as subscription or SaaS offerings. Specifically, all of our SDDC offerings will become available as cloud-delivered software, joining our Tanzu, cloud management, security and end-user SaaS offerings and will help further accelerate our business model transformation. The second area I'm excited about is the progress we are making in our multi-cloud capabilities across our portfolio. In order to drive this innovation, we are specifically focusing our product and go-to-market efforts on 3 big customer solution areas. One is accelerating our customers' application transformation by providing a modern app platform with DevSecOps capabilities and multi-cloud management offerings to help them build, manage and secure their modern apps on any cloud. Tanzu and cloud management form the core of this solution. Two is accelerating customers' ability to modernize and migrate their enterprise workloads to all major hyperscalers, sovereign clouds, private clouds and the edge with VMware Cloud built on vSphere, NSX and vSAN. And three is accelerating the delivery of an Anywhere Workspace for the distributed workforce of today and the future. Our SASE, Carbon Black Workspace ONE and Horizon offerings complete this solution. The Tanzu and cloud management portfolio accelerates our customer space of digital innovation by helping them build new applications more easily and deploy and operate them more securely in any Kubernetes environment on any cloud. We see opportunities in attracting and acquiring new customers through our Tanzu Kubernetes operations solutions while providing an evolutionary journey for our existing VMware Tanzu application services customers. A key Q4 accomplishment was making VMware Tanzu application platform generally available. Customers are leaning into this new offering, including, for example, a next-generation leading health care solutions company who's partnering with VMware to build a consumer-centric technology foundation. By utilizing the VMware Tanzu application platform, they can transform their developer experience and accelerate their development and delivery of differentiated consumer experiences. As we help customers accelerate app modernization, organizations are also looking to VMware for multi-cloud management offerings to establish consistent application and infrastructure operations. Our customers are using both modern apps and cloud management to modernize their digital infrastructure and bridge the gap across any cloud. VMware's management offerings play a key role as the central hybrid cloud control plane across our customers' private and public clouds. VMware Cloud is our modern cloud infrastructure that delivers the resiliency, security and operational capabilities required in a trusted enterprise infrastructure foundation. Built on VMware Cloud Foundation, VMware Cloud is now available everywhere: on hyperscaler clouds, in the data center, on sovereign clouds, in telcos and at the edge. Our customers are pleased with the speed and cost benefits they get by using VMware when adopting and deploying their applications to the cloud. For example, Carhartt, an American apparel company, deliver exceptional e-commerce and production environments. The global premium workwear brand use Azure VMware solution to establish a reliable cloud infrastructure for critical workloads and easy-to-manage, more secure digital workspaces. Another key component to our cloud infrastructure stack is VMware vSAN, which continues to receive recognition, including being again named a leader in the Gartner Magic Quadrant for hyperconverged infrastructure software in November 2021. This year, we look forward to advancing our differentiation for running modern workloads with new releases of vSphere software and support for even greater choice and flexibility with our hyperscaler offerings. We continue to see momentum with all of our hyperscale cloud partners, providing more choice and more flexibility for our customers. We also support our customers' relationships with their preferred providers and system integrators. For example, to help global organizations accelerate IT and business reinvention, we recently announced an expansion of our strategic partnership with Kyndryl focused on app modernization and multi-cloud services. Our Anywhere Workspace offering powers today's distributed workforce by removing the friction that can exist between IT systems and employees. This creates better employee experiences and broader most effective security through a set of comprehensive SaaS services in user and endpoint management, edge, networking and security. A powerful example of helping our customers with work-from-anywhere opportunities is the MD Anderson Cancer Center. Their use of Anywhere Workspace, including VMware SASE, has enabled their researchers and physicians to work remotely during the pandemic. Their researchers now have the ability to access sensitive and bandwidth-intensive data like X-rays from anywhere. This has freed up researcher time to focus on more critical patient care tasks. Across all of these multi-cloud services, we have built our cloud networking and advanced security services, which include NSX networking, SD-WAN, SASE and security services as well as Carbon Black Cloud as a key component in providing consistent connectivity, visibility and zero trust security across all fronts. We continue our commitment to embedding environmental, social and governance into everything we do. VMware was recently recognized in the Just 100, a comprehensive ranking of ESG and stakeholder performance, for the fifth consecutive year. This year, we ranked #1 overall in the environmental category, leading all companies in sustainable products and pollution reduction. Additionally, on the social impact front, VMware was named among the Best Places to Work by Glassdoor and achieved 100% on the Human Rights Campaigns Foundation's 2021 Corporate Equality Index and named one of the best places to work for LGBTQ equality. In summary, we are pleased with our progress in fiscal year '22 and excited about our opportunities in fiscal year '23. We expect to unleash the next phase of product innovation as we focus on our mission of providing the trusted software foundation to accelerate our customers' digital innovation, and we expect to make significant progress on our business model transformation. Our progress in fiscal year '23 will position us to accelerate in fiscal year '24 as we continue to drive value for all of our stakeholders. Thank you to our customers, our partners, and the VMware team for helping close a successful fiscal year '22 and look forward to a great '23.

Thank you, Raghu. We're pleased with our Q4 and full year fiscal '22 financial results, which have us well positioned for FY '23 and beyond given our attractive long-term financial model. Total revenue for the quarter was $3.5 billion, and combined subscription and SaaS and license revenue grew 11% year-over-year to $1.9 billion. Our Q4 subscription and SaaS revenue of $868 million grew 23% year-over-year. For the full year fiscal '22, subscription and SaaS revenue totaled $3.2 billion and increased to 25% of total revenue, which puts us on track to surpass $4 billion in subscription and SaaS revenue for fiscal '23. Our subscription and SaaS portfolio is comprised of 3 customer solution areas: Tanzu and cloud management, cloud infrastructure and end user and secure edge. Cloud infrastructure includes our VMware Cloud offerings, such as VCPP, VMware Cloud on AWS and VMware Cloud on other hyperscaler platforms. End user and secure edge includes Workspace ONE, Horizon, Carbon Black and our SASE offerings, such as VMware SD-WAN. Total subscription and SaaS ARR increased to $3.6 billion in FY '22, up 24% versus FY '21. And for the full year, subscription and SaaS revenue surpassed license revenue for the first time. License revenue in Q4 grew 2% year-over-year to $1.035 billion. Term license revenue was $191 million and comprised 18.5% of license revenue in Q4, up from $95 million in Q3. Term license revenue for the full year FY '22 was $442 million, up from $119 million in FY '21. This growth was due to new and expanding product offerings and customers moving from on-prem license to term offerings. Services revenue for Q4 was $1.628 billion, an increase of approximately 3.5% year-over-year, with software maintenance revenue up 3% year-over-year to $1.346 billion. Our large installed base provides an opportunity to convert recurring software maintenance streams to subscription and SaaS, delivering incremental value to customers by driving continuous innovation as well as enabling additional upsell and cross-sell opportunities. Our non-GAAP operating income for the quarter was $1.137 billion. This stronger-than-expected result was due to both higher revenue performance and lower-than-expected growth in expenses. Non-GAAP operating margin for the quarter was 32.2% with non-GAAP earnings per share of $2.02 on a share count of 423 million diluted shares. Other income and expense for Q4 included $21 million of loss on the early repayment of our $1.5 billion bond obligation due in August 2022. We ended the quarter with $11.2 billion in unearned revenue and $3.6 billion in cash, cash equivalents and short-term investments. We paid $11.5 billion special cash dividend at the beginning of Q4 on November 1, 2021. Cash flow from operations for FY '22 was $4.4 billion, which was stronger than expected due to the strength of the P&L in Q4 as well as timing of cash tax payments and other expenses. Q4 cash flow from operations was $1.137 billion, and free cash flow was $1.014 billion. In Q4, we paid down $2 billion in debt, consisting of $500 million of term loan commitments and the $1.5 billion bond due in August of this year that I referenced earlier. RPO in Q4 was $12 billion, up 6% year-over-year, and current RPO was $6.8 billion, up 9% year-over-year. Total backlog was $88 million, substantially all of which consisted of orders received in the last 3 days of the quarter that were not shipped and orders held due to our export control process. License backlog at quarter end was $14 million. In FY '22, our subscription and SaaS bookings increased to over 32% of total bookings, excluding PSO. Subscription and SaaS bookings are the leading indicator of the progress we're making with our multi-cloud solutions. Turning to Q4 product bookings, which include subscription & SaaS and license bookings. In our cloud application platform and cloud management area, management product bookings grew in the strong double digits year-over-year. We were also pleased with the customer interest in our new Tanzu application platform, which became generally available in the quarter. In cloud infrastructure, which includes compute, storage and networking, our Q4 compute product bookings grew in the high teens year-over-year driven by contributions from solutions such as VCPP, vCloud Suite and VMware Cloud. vSAN was up in the mid-single digits. NSX grew in the low double digits, and EUC had strong double-digit product bookings growth year-over-year in Q4. In Q4, we repurchased approximately 2.5 million shares in the open market at an average price of $119 per share. Our capital allocation framework remains unchanged as we plan to use our cash generation and balance sheet to invest in growing our business, paying down debt and returning excess capital to shareholders through share repurchases. At the end of Q4, we had approximately $1.7 billion remaining on our existing repurchase authorization of up to $2 billion. Turning to guidance for fiscal '23. Our outlook for the year is consistent with the long-term framework laid out at our analyst meeting last October as well as the preliminary FY '23 outlook provided on our Q3 call. FY '23 total revenue is expected to be $13.750 billion, an increase of 7% versus fiscal '22. As we've discussed previously, we're increasing our product development and go-to-market focus on subscription and SaaS product offerings, which we believe will help accelerate future top line growth and lifetime customer value. We forecast the combination of subscription and SaaS and license revenue to be approximately $7.020 billion, an increase of 11%, with subscription and SaaS revenue of $4.040 billion, up 26% versus fiscal '22. We plan for subscription and SaaS to reach nearly 30% of total revenue for fiscal '23, and we expect our subscription and SaaS ARR growth rate for FY '23 to exceed our subscription and SaaS ARR growth rate for FY '22. We expect non-GAAP operating margin for the full year to be 28%, which reflects investments in support of expanding our subscription and SaaS offerings. And we expect non-GAAP earnings per share of $6.97 on a diluted share count of 427 million shares. As I mentioned earlier, we had strong cash flow from operations in Q4, which resulted in us exceeding our cash flow guidance by over $250 million. Taking into account the expected impact, a portion of that outperformance has on the upcoming year due to timing, we currently forecast cash flow from operations of $4.2 billion and free cash flow of $3.75 billion in FY '23. For Q1, we expect total revenue of $3.185 billion or a growth rate of approximately 6.5% year-over-year. We forecast the combination of subscription and SaaS and license revenue to be approximately $1.555 billion, an increase of 12%, with subscription and SaaS revenue of $910 million, up 23% year-over-year. For Q1, we expect non-GAAP operating margin to be 27% with non-GAAP earnings per share of $1.56 on a diluted share count of 424 million shares. Additional guidance details for Q1 as well as FY '23, including considerations related to tax rate, are contained in the slide deck accompanying this call. Our Q4 FY '22 performance marked continued progress towards VMware's strategy of becoming a multi-cloud subscription and SaaS company given our mission-critical portfolio and deep customer relationships. Closing out the year, we delivered another quarter of consistent results across key financial metrics. This performance enables us to drive further innovation as we scale our multi-cloud platform, helping customers accelerate their journey to the cloud. Our subscription and SaaS portfolio expansion will continue to deliver value for our customers and shareholders as we grow the business. I'll turn it back to Paul for Q&A.

Thanks, Zane. Before we begin the Q&A, I'll ask you to limit yourselves to one question consisting of one part so we can get to as many people as possible. Operator, let's get started.

[Operator Instructions] And our first question will come from Matt Hedberg with RBC Capital Markets.

Congrats on the strong close to the year. First of all, it was great to see the reacceleration of subscription and SaaS. And I think you talked about all products being available as an SMS offering in fiscal '23. Can you talk a bit more about how you plan to roll that out? Are there any sales incentives that you're contemplating? And I guess in conjunction with that, how do we think about the license option, sort of the perpetual license option on a go-forward basis?

Matt, this is Raghu. Before I answer your question, let me take a minute to comment on today's news. Obviously, as all of us have been watching the news, the events that are happening in Ukraine are obviously much larger global scope and seriousness, and the impact and the conflict is horrible for all those involved. And we sincerely hope the hostilities cease really soon. And our thoughts are with everybody that's impacted, of course, including our employees and our partners and our customers in the region. And as a critical infrastructure supplier, we have made all the preparations necessary for business continuity for all of those affected as well. And with that, turning my response back to your question, Matt, yes, we are very excited about FY '23. We are very pleased about how we finished up with FY '22. And as we have spoken many times before on this type of a call on other occasions, we set out 2 key objectives and 2 key goals for last year: one was to begin the process of accelerating our innovation around the multi-cloud opportunity, and second is accelerating our subscription and SaaS transformation. We made significant progress on both of them last year. And this year, we are very excited about the progress we're going to make. If you look at our product portfolio, we've set ourselves up very nicely for accelerating the multi-cloud innovation. Our Tanzu Kubernetes operations continues to mature very nicely. Our Tanzu application platform was GA-ed in the fourth quarter, and that has received a very strong interest from customers because it attacks the problem that a lot of customers are facing when they're building new applications in the cloud by accelerating the path to production of these new applications. And on the helping -- the second part of our portfolio is, of course, helping customers take their enterprise applications to the cloud, and we have made our VMware Cloud available on all platforms this year -- or last year, sorry. And we're going to make a lot more capabilities available on top of that, that makes this the premier platform for enterprise application in terms of resiliency, security and cost. And then, of course, all of our customers are having a majority of their employees work from home. So the combination of the innovations that we're bringing about in SASE with respect to cloud web security, firewalling and so on and so forth with respect to our Anywhere Workspace and digital experience for employees. A lot of innovation in each of these areas. All these are multi-cloud-oriented, so very excited about that, specifically with respect to bringing our products to subscription and SaaS. This year, we will complete the job of having all of our SDDC portion of our portfolio available as subscription, and that is compute with Project Arctic that we talked about, initial availability in Q4, as previously planned, and general availability this year. And then, of course, vSAN and NSX. All these are significant efforts that have taken us the better part of 2 years. And I'm very excited that this year, we'll be achieving the milestone of making them all available. And the second part of your question is as that happens, what are the other things that we are doing. On the sales and marketing side, we are definitely pivoting our initiatives towards our subscription and SaaS offerings in terms of the gates and the rates and so on. Equally importantly, we are adding a lot of new capacity, sales capacity with the folks that are coming in with the knowledge of how to sell and thrive in a subscription-oriented business model. We are also arming our partners with the right set of certifications. Just last year alone, over 10,000 partners -- individuals in our partners got the certifications around Tanzu and cloud infrastructure and our Anywhere Workspace solutions. We are accelerating our -- reinvesting in our partnerships with our global systems integrators. You might have seen our announcement with Kyndryl, and similarly, other global system integrators. And that -- the emphasis on subscription and SaaS is not just in our global and enterprise customers but also in our mid-market. We saw a significant growth in our commercial pipeline and our volume of deals that we would classify as midsized deals even in Q4, and we expect that to carry forward this coming year as well. And we are seeing the customer proof points, the proof points that we talked about in the call as well as the proof points that we put out a lot of press releases around. Seeing really significant customers such as a global publisher of advanced technology publications put their entire website up on Tanzu, right? And so that is a classic B2C kind of environment that's now running on cloud-native applications running on top of Tanzu because it needs to be in a very mission-critical environment. Not just one example. We have seen examples across every one of these. So we are seeing encouraging proof points in customers. We are preparing our channel. We are preparing our sales force. We are turning the incentives to that side. And then most importantly, our product portfolio is tilting towards multi-cloud innovation and towards subscription and SaaS. So if you put it all together, I am personally very excited about FY '23. It feels like we are revving the engines for future growth, like we talked about at our Financial Analyst Meeting. What does it mean for license that are -- section of our large customers, especially telcos customers and regulated industries, et cetera, that prefer to buy licensed products. So the license business is very important to us. And depending upon what type of customer you are and what your preference is, we will sell them either license or subscription. But I expect, in general, subscription to receive a greater focus from our go-to-market organization this year, and that is all reflected in our guide.

Matt, I'll just add. Obviously, with what Raghu mentioned, we're leaning even more into sub and SaaS, which is aligned with the framework we outlined to you and others at our Financial Analyst Meeting last October. So we're encouraged by the momentum we saw in the fourth quarter and as we look to FY '23, as I mentioned, we'll have sub and SaaS revenue in excess of $4 billion, up 26% on a year-over-year basis. So that ratable revenue will be incorporated -- has been incorporated into our guide for FY '23 as well as the macro, which aligns with the framework we laid out last year as well as the commentary I had in our Q3 call. So we're very encouraged and excited by the opportunities ahead, even with FY '23 and beyond.

Our next question comes from Raimo Lenschow with Barclays.

Congrats from me as well. I've been asking this question for a few quarters now, and it's around what do you see in terms of customer behavior now as you're coming out of the pandemic in terms of looking at more bigger strategic decisions, et cetera, to care that will kind of help you to also incorporate more and broader product set? What are you seeing in appetite? Are they kind of coming out and are comfortable doing these bigger decisions again? What are you seeing there?

Thanks, Raimo. I'll start and Sumit can add some from a customer perspective as well. So we are certainly seeing customers making significant strategic moves towards accelerating their digital transformation, accelerating the move of their enterprise applications to the cloud, and of course, all matter cyber and making employees work better from a remote context and be more productive in delivering -- in having a digital experience. So these are the 3 areas that we are primarily focused on as a company. And we are seeing customers make more strategic bets in every one of these areas with us as well as in general in the industry. So that's what we are seeing. Coming out of the pandemic, we are seeing this being accelerated. In Tanzu, we saw some pretty significant design wins that point in that direction. With respect to enterprise applications moving to the cloud, we see increasingly customers becoming cloud-smart. It's not just about cloud-first. They're looking at their application portfolio and deciding which set of applications they want to rewrite completely, which set of applications they're going to write new on which cloud, how they're going to use AI and so on. And this sort of applications deploy the the edge as well in addition to the data center. So we are seeing the application portfolio spread out. And so there is a strong interest from customers in the so-called cloud-smart approach and in having a portfolio approach that says, look, given the sort of a distributed environment, which parts of these do I want to be specific to a particular cloud? Which parts of it do I want it to be common, things like security or having a management control plan or having a developer experience are emerging as areas where they want it to be common. So this is where we see the strategic bets. One example I'll give you just before handing you to Sumit is a large publisher that initially used our VMware Cloud on AWS for having their enterprise applications. And then in the last quarter, they did a new set of business with us to bring cloud-native applications on to Tanzu on a cloud-native portions of AWS. So that is one example. And so we are seeing more and more, and we hope to see a lot more examples like this.

Yes. I think, Raghu, you touched on the cloud-smart part. Raimo, the only thing I would add is we are now involved with these large enterprises in industries that have been regulated who are interested in taking their core business and enterprise applications to cloud, whether those are large manufacturers, large global banks, telcos, big consulting firms, government agencies. And when they're looking at their sort of hardcore enterprise applications that have been running the core business functions of their enterprise, they're not seeing any other viable path besides using our solutions to adopt a cloud-smart architectures like Raghu mentioned. So that's extremely encouraging. We saw a few wins of that in Q4, and we are seeing again great interest in demand going into FY '23.

Our next question comes from Mark Murphy with JPMorgan.

I'll add my congrats. So since VMware is one of the very first software companies with the January quarter end to be reporting its results, I'm just interested in whether you sense any kind of tangible effect from the Omicron variant, either -- maybe perhaps it pulled some business into December or pushed some out of January. And Raghu, since you did mention the ramifications, are you embedding any kind of disruption into the guidance for the Ukraine conflict and uncertainties related to that?

Mark, this is Zane. I'll start and then obviously, if Raghu has anything to add. I'd say that we did not see any appreciable movement regarding Omnicon impacting our quarter or even the linearity within the quarter. Again, we're very pleased with the progress we're making throughout the quarter. Bookings were very strong, in particular, the areas that we've been focusing on, namely the subscription and SaaS parts of the business. So we're very pleased with that, and obviously, exceeded our expectations internally. And I'd say regarding the macro, obviously, we take all of it into account as we look at the year. I'll let Raghu weigh on sort of more broadly than that. But again, obviously, we've taken, I'd say, the bulk of it into account. But things are very dynamic, and we'll see how -- we take it sort of day by day as it relates to the broader macro here.

Yes. Just to add to that, I think our planning clearly like it is every year done in December -- November, December, January and takes into account our view of the world during that point of time. And -- but having said that, every day is a new day. And as things evolve, we will adjust. But just to tie it back to Raimo's point, right, when customers are thinking about strategically what they want to do over the next couple of years, those trends tend to be fairly secular. And you all have written about it, and we see it in our business and the trends around becoming more and more of a digital company, transforming their application portfolio, taking better advantage of the cloud capabilities where appropriate, building out the edge, supporting a remote workforce, cyber, these themes have not changed in the last -- and of course, machine learning and data, these things have not changed in the last 2, 3 years, and I quite honestly, don't expect it to change over the next 2, 3 years. If you look at CIO budgets, these are the themes that are getting more of their budget allocation. They all tend to be software. Software spend is outstripping overall IT spend, which in turn is outstripping GDP spend. And these have been the trends regardless of macro.

Our next question will come from Mark Moerdler with Bernstein Research.

Congratulations on the quarter, and our thoughts are with those impacted in Ukraine and the region. Zane, I have 2 related questions for you. How much of the subscription and cloud that you're seeing now and going forward is coming from new sales versus existing maintenance? And how do you expect this to change going forward? And can you review how much of a revenue lift you expect as workloads move to subscription and separately when they move to cloud?

Sure. There's obviously a piece that's coming out of our software maintenance side, if we were to annualize that impact in the fourth quarter, I'd say it was approximately $100 million. Obviously, that's the annual impact of the, what we call converts here, which is we take what would normally be the stream that I mentioned in my prepared remarks and then convert them to sub and SaaS. That comes at a good premium, but we believe we're offering significant value to the customer through that conversion as well as seeing a lift ourselves. So that was the number for the fourth quarter. It continues to be a very successful program. As we look more broadly, we see the opportunity with that entire installed base to continue to think about growing our sub and SaaS percentages, and we highlighted our bookings being 33% of the total revenue for the quarter. So we're very pleased with, at least for the year, it was a little bit higher for the quarter. So we're pleased with the opportunity not only with the installed base, but candidly, with the value we're driving. Raghu mentioned, even some of the cloud-native applications where we're able to sell products into cloud-native. So I'd say it's more broad than just that installed base. It's beyond that installed base. And we see, obviously, a lot of benefit extending into FY '23 and beyond with the new and existing customers.

And moving on to Simon Leopold with Raymond James.

I just want to see if maybe you could talk to the deceleration in bookings, basically revenue plus the change in RPO. It looks like you've got a really tough comparison. So you had very good sequential growth. But just wanted to see if maybe you could unpack that as well as the current bookings deceleration. Help us understand whether this is a trend or you wouldn't extrapolate from that single data point.

Sure, Simon. Yes, as you highlighted, if you look purely at external bookings, there's a quarter-to-quarter phenomenon in sort of the sequential part of that, is less relevant beyond the third quarter to fourth quarter. So what we tend to navigate towards is more the CRPO number, which was 9%, and we're quite pleased with that. It was a little bit under where we've been. As I mentioned, we saw acceleration on the bookings side in a number of areas tied to sub and SaaS. And even when you consider some of those categories and the trade-offs between that sub and SaaS booking versus an on-prem booking, it does have an impact even with RPO because you don't -- when some of our conversions that I just talked about with Mark's question, when you convert to term or some of the other sub and SaaS-type bookings, you tend to have less deferred show up on the balance sheet because of that conversion. We're still getting a nice premium on that, but it doesn't necessarily show up in deferred. If you were just to isolate the deferred sub and SaaS portion of RPO, so you just take that part of the deferred account, you'd see that up well over 30% on a year-over-year basis. So as we look at those trend lines, we're very comfortable with them. I'd also point out we have products like VCPP and a lot with the hyperscalers outside of AWS that have been growing tremendously on a year-over-year basis, and those typically don't have any deferred associated with them either. So we're very comfortable with the bookings, as I mentioned, which is why I called out the total booking numbers as we looked at that over the total portfolio. So we're pleased with the trends we're seeing, and you see that extend into FY '23 and beyond.

And that question will come from Keith Weiss with Morgan Stanley.

This is Sanjit Singh on for Keith. I guess my question would be, given that we've seen the correction in the capital markets and software valuations, I was wondering how the -- how that sort of maybe change the team's thinking on the types and the sizes of potential M&A that you may or may not consider given that there's a lot of good assets that potentially are on sale. And I just wanted to see how that -- how the drawdown in valuations over the last couple of months has changed the team's thinking.

Yes. So our M&A strategy has been largely unchanged. If you look at the history of our M&A, we tend to do what we would mostly categorize as tuck-ins in the product categories that we already play in. And then occasionally, every so often, we might move into a new category. And it's always driven by what customers perceive as our gaps are, logical adjacencies where we need to be also present. And so drives our thinking, first and foremost, as opposed to looking at valuations first and then deciding what we should buy. We look at our strategy and our product evolution and where we may need to buy some external companies. And then once we decide what is the best fit, then we think about valuation. So the short -- so that's the long answer. The short answer to your question is the reduction in the valuations observed in the capital markets does not necessarily affect our planning around our portfolio.

And that question comes from Garrett Hinds with Macquarie.

I would love to hear what your -- what 5G use cases you're most excited about as we enter more connectivity -- more ubiquitous connectivity and how VMware is going to help with that.

I'm sorry, I could not hear the question. Sorry.

Oh, sorry. I would love to hear your favorite 5G use case and how VMware is going to help enable that?

Yes. So our focus has been in 5G in 2 parts, if I were to elaborate. The first part is really helping service providers build a modern 5G network based on software, number one; and based on open standards, number two, right? There is an industry standard called ORAN or open ready-access network. And what it is, is it's a very disruptive idea that fundamentally builds -- helps service providers architect and build and operate an entire 5G network using software running on practically commodity hardware, right, delivering all of the capabilities that you need in 5G. So that's really the first aspect of our focus, and we've been very -- we're off to a very successful start there. We have previously announced that the DISH network, which is building the first nationwide 5G network built entirely on software and using cloud-native technologies, is building it using our technology. And so that's really what we're doing. We have since then won POCs and so on at lots of other global customers as well, and those things will turn into full production rollouts. The reason these companies are very excited by 5G is because they all serve their enterprise, and the enterprise use cases of 5G are just beginning. First and foremost, the common one is private 5G, which, in many cases, has the potential even to replace wireless and WiFi in campus, right? So that is an area that we are helping a lot of enterprise -- sorry, a lot of service providers on. And then the use of 5G in revamping manufacturing and then concurrent -- in places where concurrent low latency access is needed in the edge. We are working a lot with the service providers there because that's another part of our portfolio. Building new applications like gaming and so on that need to operate in a low latency environment at the edge, those are other examples where we are providing customers with not just the 5G -- service providers with not just the 5G network, but also the compute environment needed to build and deploy those applications. So it's a spread of enterprise applications across the categories of manufacturing, retail and, of course, telco applications as well as horizontal connectivity.

And our next question comes from Fatima Boolani with Citi.

This is Mark on for Fatima. Congratulations on the quarter. So maybe just want to delve a little bit deeper into the go-to-market strategy. With vSphere and SDDC on deck to be SaaS delivered this year, what sort of sales comp and incentive changes should we expect, if at all? I know you guys mentioned a lot on the sales capacity side, but anything in terms of comp and incentive would be helpful. And then just a follow-up on that one. What mechanisms or guardrails are in place to really limit disruptions to customers continuing to opt for perpetual license form factors, consumptions for these offerings?

Mark, this is Sumit. So we're excited about what's coming in sort of stores for vSphere, vSAN, and there are 2 sort of things that we have done. Firstly, with our management and our end-user computing portfolio, we have through our universal programs determined a clear mechanism that includes appropriate guardrails at the time of transaction, but more importantly, building consumption journey and consumption plans so that when customers adopt their sub and SaaS offers, they can -- when they purchase them, they can adopt them and consume them. And so far, our results have been very encouraging with our end-user computing and cloud management portfolio through our universal programs. And we intend to leverage those with the rest of the portfolio as it becomes sub and SaaS as well. Secondly, we -- our comp and sales incentives models are designed for using 2 key mechanisms within VMware. We call them weights and gates: weights as in the percentage of the compensation that's dependent -- that's on sub and SaaS and gates that determine the seller's accelerators. And both of them, we continue to adjust as our portfolio becomes more and more subscription and SaaS to favor the growth of our sub and SaaS business. And we now know that those metrics work quite well as we have done that in FY '22, and we'll continue to -- and we are continuing to sort of turn them in -- turn the dial in the right direction for FY '23. In addition to those 2, as Raghu mentioned, we are in -- we are about to launch our partner program that provides partners incentives to drive consumption of customers transitioning to sub and SaaS. Those incentives -- now we've already rolled some of those out, and those will scale up through FY '23 to catch the volume of customers that we anticipate will adopt our sub and SaaS offerings for vSphere and vSAN. So that 3-legged strategy is how we will employ as a much broader part of our portfolio becomes sub and SaaS in FY '23.

Our next question will come from James Fish with Piper Sandler.

I actually just want to build off the last one a little bit. It seems like it was another big increase in term license as you're trying to also move towards more SaaS, especially with some of your Tier 1 verticals like financial services and government, as you've talked about. I guess what makes you confident these customers actually want to consume some of these products as SaaS rather than term license? And it's been a bit, Zane, since we got an actual update on the bookings sizes of some of the underlying business lines like end-user NSX and vSAN. Are you willing to give that given at the fiscal year-end?

Sure. Well, we'll -- let's first tackle the term piece of the business, which maybe, Sumit, if you want to touch on as well. I’ll say, as we are thinking about the portfolio and laying out the broader view of the portfolio that Raghu mentioned earlier, as we get into next quarter, we'll highlight. We believe the way that we think about the portfolio having changed over the years is more relevant. And in FY '23, we'll give you a broader view of the sizing of those elements. So we're actually migrating more towards how we think about both the sub and SaaS parts of the business as well as the on-prem pieces as they roll into it and -- which is part of the reason why we see term as a stepping stone. And these new categories will be, we believe, more helpful in where the business is going. So our intent is to update you on that at the next quarter.

And Jim, to answer your question on the term business, term business is predominantly our Horizon VDI in end-user computing, and the compute part of vCloud Suite, okay, where customers are bringing up sort of their management in the cloud, but vCloud Suite being a suite of portfolio there is percentage of the products that they're running on-premise, which is -- ends up becoming, from accounting perspective treated as term. So in both the cases, we see customers very much interested. They're not like they are not interested in getting value from the cloud. They're just -- they are interested in keeping their workload on-premise because they have, for multiple reasons, including just the capital investments that they have made in the infrastructure, they want to leverage them. So across both of those, as we introduce SaaS capabilities that enable customers to keep the workload in the cloud -- in the on-premise but get additional capabilities for SaaS, then as their term comes up for renewal, we have an opportunity to actually convert them to sub and SaaS. And so that's our strategy, and that's the predominant part of our term business at this point in time.

And our next question comes from Karl Kierstead with UBS.

Zane, I'd love to zero in on fiscal '23 free cash flow guide of $3.75 billion. That would be down for the second year in a row and by about $220 million. So I think it's important maybe to understand a little bit what's going on, on the cash flow side. And perhaps with investment spending I’m sure there's a little bit of interest expense increase as well. But I wanted to ask you about 2 issues in particular. One, the extent to which you might be seeing wage inflation and could that be weighing on margins, and hence, cash flow? And then second, and maybe even more importantly, whether the model transition that you and the team have talked about on this call to sub/SaaS, might that be accompanied by any compression in average invoicing duration that could be weighing on cash flow?

Sure, Karl. Yes. So when you look at OCF, if we start at the operating cash flow side, we were very pleased with FY '22's results. And as I mentioned in my prepared remarks, not only the strength of the business and the bookings that we saw in Q4, but just the top line growth and the billings exceeded our expectation. We came out well ahead of what we expected with well over $4.3 billion in OCF for FY '22. Some of that was timing in a number of areas that does impact that transition from FY '22 into our guide for FY '23. So we actually think, on an OCF basis, we see consistency there between the $4.35 billion, if you will, on FY '22, heading into our guide of $4.2 billion for FY '23. So there's a lot of consistency there. The difference between that and free cash flow that you highlighted is an increase primarily driven by 2 areas. One is a lot of the back-office support and systems that we need to drive this transformation and the growth that we're seeing in our sub and SaaS business is the increase that you're seeing there as well as some capitalization tied to the R&D efforts on some of these sub and SaaS platforms that gets capitalized over a number of years. So the increase you see on our CapEx, if you will, from FY '22 to FY '23 is driven by those 2 factors that we believe are very positive on the business. But obviously, as you point out, do impact free cash flow, at least in the short term. It looks like we have time for one more question, so this will be the last question please.

Our last question will come from Nehal Chokshi with Northland Capital Markets.

I guess providing an ARR metric on the subscription and SaaS revenue?

Yes, we did. For the past year, $3.6 billion.

And what's that year-over-year growth?

That was 26 -- 24% year-over-year.

24%. Okay. So that's partially what underpins the confidence in the further acceleration that you're guiding to here, correct?

Yes. That's right. I mean that's a good call-out. As I mentioned earlier, we were very pleased with the sub and SaaS focus from the entire company driven by the product side, the go-to-market side. We feel like we're well positioned heading into FY '23. Obviously, the $3.6 billion in ARR allows us to have that conviction for further growth. I did point out that we would expect to see that ARR increase at the end of FY '23 as well. So we're confident in that as well as the focus and the guide on sub and SaaS revenue for the year, which was over $4 billion.

Great. I have a different question real quickly. Why did vSAN year-over-year growth decelerate from mid-teens to mid-single digits this quarter?

Yes. So if you think about vSAN, it's increasingly by model, go-to-market, if you will. One part of it is vSAN is a part of a -- the HCI as part of our overall VMware Cloud Foundation, VMware Cloud and AWS and VCPP-type solutions, which are full infrastructure stack solutions. And the second go-to-market for HCI is through our converged -- hyperconverged infrastructure appliance that we sell -- we do in partnership with Dell and with other OEMs as well. So both of these are what drives the growth of our vSAN business. And vSAN as a stand-alone software category is something that we find customers want less off, and they really want the full HCI solution and the full appliance solution. And that's what's driving our vSAN business going forward.

Okay. We're -- we've hit our time. I think that before we conclude, Raghu, you had a final comment you wanted to make.

Yes. Thank you, Paul, and thank you, everybody, for joining the call today. As we begin FY '23, I'm very excited by the growth opportunities ahead of us. Our strategy around multi-cloud is clearly resonating with customers. And I'm very happy with how the team is executing on the product innovation side, on the business model transformation side and on the go-to-market side. And collectively, we -- FY '23 will be another year that we make progress towards our long-term goals that we laid out in the Financial Analyst Meeting last September. So thank you very much, and I look forward to updating you the next quarter.

Well, thank you. And that does conclude today's conference. We do thank you for your participation. Have an excellent day.