Our views on Western Digital Corp. (WDC)
02-18-07: Western Digital (WDC) is one of the premier hard drive producers. While we believed this market has reached the mature stage, there is still room to grow as new devices continue to provide catalyst for growth. When a company approach this stage of the business cycle, it is reasonable to expect gross margin to decline. In the last quarterly report, the company provided lower guidance for 2007 which sparked concerns. The decline in gross margin has Wall St. nervous. Another concern with WDC is its reliance on Dell. WDC is one of Dell’s main providers of hard drives. While Wall St. appears to have given up on WDC, we view this as an opportunity. Here are our thoughts on WDC:
Strong year over year growth: According to WDC recent financial report, Western Digital quarterly revenue was $1.4 billion -- 28% above the year-earlier level -- on 35% higher shipment volume of approximately 24.5 million units. Net income gained 23% to $128 million, or 57 cents per share (www.wdc.com, 2007). Setting the lower guidance aside, growth rate of 28% is not bad given the competitive nature of the sector. We believed the lower than expected guidance is actually a good move by WDC’s management. By setting the bar at the level where it is achievable, management is being prudent instead of going aggressive and later disappointing investors.
Valuation Opportunity: Trading at $18.82 per share, we believed WDC is priced right for investors looking to enter. Given the company’s strong year over growth rate, we believed the risk/reward is compelling. To put things into perspective, compare Seagate’s (STZ) P/E and EPS with WDC, you’ll see this stock is undervalued at $18.82. The key point is WDC is profitable; growing at a decent rate and management is doing the right thing by resetting expectation. Fundamentally, this is a sound company.
The PC industry is currently out of favor at the moment given companies like Dell is struggling. Thus, any company that is connected to the PC industry is encountering resistance on Wall St. Our long term view is the PC market will eventually rebound and WDC should benefit when Enterprise begin to upgrade to Microsoft’s new operating system.
Forget about the recent news indicating retail sales of MS Vista are lagging, the Enterprise is where the money is. Most individual users are still running Windows 2000 and have little reason to upgrade. The point is, recent retail sales of Vista is not a good indicator of the potential success of Vista.
While analysts cite the lack of catalyst, we see plenty of opportunities for WDC. The next catalyst for WDC is going beyond the desktop PC. It will be mobile devices. This includes everything from laptops, PDA, television recorders and more. This area is growing nicely; in the long run, WDC should be able to capitalize. The discount in WDC shares is certainly attractive and worthy of consideration.
While some believe it is better to buy stocks high and hope to sell it higher, we will stick with the old school of buying low and selling high. This stock fits our model of a value stock. Thus, we see WDC in the high 20s by December.
UPDATE: 2-23-07. It appears Citigroup has finally came to their senses and issued an upgrade from Hold to Buy. The stock broke the $20 barrier today.
Comments
most individual people are still using windows 2000? seems more likely everyone is using xp? not that xp was better than 2000 but people tend to want to upgrade when they cant find drivers for their current os anymore. Which is why we'll all be using Vista in the end aswell.
Posted by: Mike | March 23, 2007 12:53 PM