Editor’s note: Stephen Belanger is a  Research Analyst at Technology Business Research. He takes a detailed look at NetApp’s earnings report, which was released Wednesday evening (read WRALTechWire coverage. NetApp operates one of its largest corporate campuses in Research Triangle Park, N.C.

HAMPTON, N.H. – Despite year-to-year revenue declines, NetApp’s (Nasdaq: NTAP) operating profitability improved due to an increased sales mix of services and effective expense management

In 4Q13, NetApp’s revenue declined slightly year-to-year by 1.2% to $1.6 billion. NetApp’s services revenue growth of 8% year-to-year did not offset hardware revenue declines of 4.3% over the same period.

TBR believes NetApp is effectively positioning its portfolio and go-to-market strategies for shifting demand in the global storage market, indicated by 20.6% year-to-year operating income growth to $256 million. The channel remains critical to NetApp’s sales, with channel partners accounting for 83% of total revenue in 4Q13.

NetApp’s international expansion efforts also gained traction, shown by Americas revenue declines of 600 basis points sequentially to 52% of total revenue.

New Flash Tech to Help

The recently-launched EF550 all-flash array will help NetApp’s flash solutions remain competitive while the firm prepares FlashRay for general availability in 2014.

NetApp has been competing for customers in the all flash-array market since the launch of its first all-flash array, EF540, in February 2013. In 4Q13, NetApp reported E-Series shipments nearly doubled year-to-year and increased 34% from 3Q13. TBR believes units sales were supported by the use of E-Series hybrid and all-flash arrays within a wide range of vertical markets.

TBR believes NetApp is grappling with how to differentiate its flash solutions because of the significant number of product launches, acquisitions and large-scale investments by competing vendors during 2013. For example, Dell recently launched aggressively priced all-flash solutions, Cisco acquired the flash vendor Whiptail and IBM committed $1 billion to flash development.

In November, NetApp launched its second all-flash array, the EF550. TBR believes the EF550 array will help NetApp remain competitive and target enterprises with mission-critical workloads that require the strongest performance while the firm prepares the forthcoming FlashRay product family for general availability in 2014.

While EF550 provides incremental performance improvements over EF540, the upcoming FlashRay family is built from the ground up and will be a significant advancement of NetApp’s flash capabilities. FlashRay is being touted by NetApp as “purpose-built” and TBR believes the workload-centric nature of FlashRay will be a key differentiator. This will be critical for NetApp to justify the higher ASPs of FlashRay by highlighting the efficiency benefits of workload-optimization as vendors such as Dell continue to be price-aggressive.

Responding to Cloud Pressure

NetApp is responding to public cloud disruption through its ONTAP-led value proposition – what it calls “UnCloud” – and hybrid cloud partnership with AWS

As a pure-play storage vendor, NetApp’s revenue is particularly vulnerable to service providers’ public cloud alternatives. We believe NetApp is positioning itself to endure hardware revenue challenges and has been closely monitoring its operating expenses since 2012. NetApp leverages its flagship Data ONTAP storage operating system to differentiate its hardware and enhance the value proposition of its portfolio by focusing on workload optimization and scalability.

This will be increasingly critical to profitability and market share as hardware continues to feel the effects of commoditization and competitors work to differentiate at the software layer.

In addition to Data ONTAP, NetApp partners with Amazon Web Services (AWS) to provide customers with flexible hybrid cloud alternatives to private and public cloud solutions. The NetApp Private Storage for AWS solution enables customers to replicate data using NetApp’s SnapMirror or SnapVault software from an on-premises NetApp FAS array to a NetApp FAS array in an AWS Direct Connect facility. This allows customers to securely backup their data, as well as take advantage of AWS’ cloud computing services.

TBR believes this feature will benefit NetApp by increasing the average deal size through sales of FAS arrays in multiple locations and sales of its replication software.

Resellers a Strength

TBR believes NetApp must carefully articulate the value of its solution to attract customers that are having difficulty adopting cloud solutions. As rival vendors also respond to public cloud-driven disruption such as EMC’s recently enhanced partnership with VMware for hybrid cloud services, we believe NetApp will exploit its core strength in the channel to stave off competitors.

NetApp maintains strong relationships with key resellers such as Arrow and Avnet, which contributed over 30% of revenue in 4Q13. Additionally, NetApp is expanding its reseller network such as the addition of Distribution Central in February to target customers in Australia.