Welcoming the New Kid on the Software Block By ERIC J. SAVITZ
Gadget of the Week
SO HERE WE ARE, IN THE MIDDLE of a gut-wrenching double-digit correction on all the major averages, and we get the biggest tech IPO since Google (ticker: GOOG) in August 2004.
I refer, of course, to Palo Alto, Calif.-based VMware (VMW), which came public last week at $29 and quickly ratcheted higher. VMware remains 86%-owned by EMC (EMC), which bought VMware for $635 million in early 2004. Nice investment: By Thursday's close, that stake was worth $18.6 billion. I'll leave it to my buddy Tiernan Ray to explain to you why EMC shares barely budged last week (see Parental Guidance), but let me just say that the situation seems loopy, and that EMC looks too cheap.
Instead, I'll focus on VMware itself. Here are a few things to keep in mind as you mull whether to buy the stock. The buzz -- or if you prefer, hype -- about VMware had been mounting for weeks. Yet the stock still appears to have been under-priced. The expected range moved from $23-$25 to $27-$29 -- and then the shares were priced at the high end. They opened at 52 Tuesday. By Thursday's close, they were at 57. That gave VMware a stock-market value of $21.7 billion, which makes it the third-largest Silicon Valley software company, just a hair behind Adobe (ADBE). Oracle (ORCL) remains No. 1, at about $98 billion.
By the way, the pre-IPO excitement contrasts with that leading up to the initial offering of Google, which had to cut the price of its shares. Whereas Google shares gained 18% on the first day of trading, VMware moved up 76%. I suspect that more than a few people who skipped buying GOOG in the early going were determined not to miss VMware.
The company is nothing like Google, of course, but an enterprise-software play, of all things. VMware makes "virtualization" software, which enables companies to use servers more efficiently.
It's quite a contrast from the enterprise-software companies that emerged during the bubble years. For customer-relationship-management, or CRM, applications, the underlying philosophy was: You must spend money to make money. VMware's value proposition has a real post-bubble flavor: You can spend less on hardware.
Benchmark-Pressing: While Nasdaq got knocked down 1.6% for the week as credit fears accumulated, tech stocks HP, Yahoo! and Autodesk managed some nifty gains. The other key factor: VMware has very little competition. Microsoft (MSFT) has a virtualization project called Viridian, but it won't ship until sometime next year. The other key competitor is another Palo Alto company, XenSource. One day after VMware's IPO, it cut a deal to sell to Citrix Systems (CTXS) for $500 million. Until now, the core business at Florida-based Citrix has been piggybacking on Windows, making it easier for people to use software applications on various systems and devices. Citrix execs made it clear that they intend to do the same thing here, and ride Microsoft's coattails.
XenSource, which is built on an open-source virtualization platform called Xen, last year inked a deal that lets them build applications on top of Viridian, and which makes Viridian and Xen-based servers compatible.
VMware's biggest rival, in other words, is being acquired by a company with deeper pockets, a large customer set and ties to the only other outfit that VMware has to worry about: the big boys up in Redmond. (Analysts at the 451 Group, a research firm, last week speculated that Microsoft might buy Citrix, but Citrix officials downplay the idea.)
So competition is coming. But for now, VMware is growing at close to triple-digit rates and controls about 90% of a market that has huge allure to corporate information-technology buyers but which so far is less than 5% penetrated. Is it pricey? Sure. The early betting is for earnings of $1 a share next year, giving it a price/earnings ratio north of 50. It might be cheaper to buy some EMC, and you might want to own Citrix as a bit of a hedge; but I sure wouldn't short VMware here.