I found one other glaring problem in their analysis.
How did ML come to justify a price target for STX of $50?
From their report: "Our PO of $50 is based on 10.0x C16 EPS of $5.02."
Now, we've gone round and round for 15 years about the multiples that get assigned to STX (& WDC). I mean, you can pull just about any old multiplier out yer whazoo to justify anything you want. And as pointed out elsewhere, there is strong evidence that somebody was frontrunning this release on the options. Options that required a stock price below ~$58 to make money. So they needed to come in somewhere comfortably below that - to help their friends out.
Anyway, what did they say about WDC? From their WDC report: "Our PO of $117 is based on 13x C16 EPS of $9."
HUH? Wait .... these two companies have nearly identical market footprints and close to the same margins. You may think WDC is better run (OK), but STX is returning much more of cash flow to shareholders than WDC (that deserves some benefit, doesn't it?).
So what if they had applied the same multiple to STX? Hmmm ... 13x$5.02 = $65.26
Ohhhhh ... that will never do. Won't help their friends during March, at all.
Now, they did hedge themselves by saying this about the WDC multiple: "In our opinion, the multiple partially
reflects the potential accretion from a favorable MOFCOM ruling."
HUH (part 2)? They estimate WDC will earn $1.58 more if MOFCOM releases them. So magically, WDC gets a double benefit - a higher multiple AND higher earnings. That ain't right. WDC simply becomes a more efficient company in the same market. The increase in earnings will boost the stock price (which it should). Why should the multiple also be higher?
BTW ML: STX also operates under MOFCOM restrictions. If WDC gets released, I strongly suspect STX will also. It won't be worth as much per share earnings wise, but it will help.
All in all, a very suspect report produced to support a clients agenda.
Underperform and $50 target
So the stocks were up strong yesterday. They must have been bidding them up to get a bigger down today.
Investment banks must create MCV! MCV! MCV! MCV!
What is this, deja vu all over again? Did we just recycle a rumor from 2010? Is this sierrawhatever the same company that rumored OCZ was going to be bought out 10x higher than what it finally died at?
A small purchase, but hidden within the Q&A document released by WDC was this gem:
"Q14: Can you talk about your target customers and ballpark the TAM for your Active Archive business?
A14: The Active Archive platform are targeted at public and private cloud data centers that need highly scalable and affordable solutions for storing and accessing increasing amounts of data over longer periods of time. According to IDC, the TAM for scale-out object-based software and storage appliances will be $15.4B this year and will grow to $21.7B by 2017.
In addition to the TAM characterized by IDC, we believe that there is a sizable greenfield market for storing valuable data that exceeds the projected amount of storage capacity being shipped. By providing a more affordable solution to storing, protecting and accessing this excess of valuable data, we believe that our Active Archive platform can address this vast area of “non-consumption.” Market research firms indicate that the volume of this excess valuable data will exceed the market capacity of traditional storage systems by 2017."
Read the last sentence carefully.
Over the last few months, STX has stated this, as well. This is the first time WDC has concurred.
If you have the HDD firmware source code, you could embed the hack into the code, then deliver the hacked package to any system the same way any other virus gets into a computer. The package could then surreptitiously reflash the firmware and all you might notice is your system locked up and needs to be rebooted. How many times does that happen under normal conditions? Once the system reboots, you never see the difference.
They could even load the hacked package onto a system and tell it to delay installation until the evening of the 2nd Tues. of the month. When Microsoft loads all the updates and your system reboots anyway. Ever notice all the strange messages on your screen during the reboot from the update? They could easily be reprogramming ANY part of your system.
As for MOFCOM - no impact.
BTW: If we want to start worrying about viruses being pre-loaded onto drives at the factory (highly unlikely), then why haven't we been worried about Chinese hacks being preloaded onto all the HDDs made in China - for decades?
ANY software in ANY device can be hacked. Even devices you don't normally think of as "computers." HDD firmware is just software stored differently from other conventional locations.
The hacking effected ALL HDDs and some SDDs, all manufacturers. And it was embedded after the drives shipped from the manufacturers (we think?). Of course, how did NSA get the source code?
So there could be 3 choices made at this point: avoid all HDDs & SSDs (give up computers); replace every drive with clean drives (don't ask me how to prove that); go on with life as you have because the NSA doesn't care about you.
I prefer the last option.
But what I really want is better oversight of NSA - that agency is out of control.
Likewise, I have no idea how to read the minds of Chinese regulators. Especially, since it's more blackmailers vs regulators. MOFCOM is protecting the Toshiba Chinese manufacturing base.
At some point, one has wonder if WDC wouldn't say #$%$ to MOFCOM and close all their Chinese factories - which were inherited from HGST. Hence, the focus on the HGST assets. Lots of jobs lost. WDC could crush Toshiba competitively. Probably wouldn't happen ... WDC can still make plenty of money as is.
I was curious as to why Seagate had stated that WDC had only made a partial payment on the award, in their 10Q. Now that the WDC 10Q is out, I see it ain't quite over. They disagree on the interest calculation:
"Seagate disputes the method the Company used for calculating post-award interest and contends that the Company owes Seagate approximately $28.9 million in additional interest. The Company denies Seagate’s contention and believes it calculated interest properly in accordance with the arbitration award. On November 12, 2014, the Company filed a motion with the District Court seeking an order declaring that WD has paid to Seagate all amounts due under the arbitration award, including all pre-award and post-award interest, and all costs and disbursements assessed by the Minnesota Court of Appeals and the Minnesota Supreme Court. On December 23, 2014, Seagate filed a crossmotion seeking entry of judgment in the amount of $28.9 million , plus daily interest from October 15, 2014 until the date any judgment is paid. Both parties’ motions were fully briefed and, on January 9, 2015, the Court heard oral argument on both motions. The Court has not yet ruled on the matter."
That is definitely good. They could easily do more, but let's not get greedy.
The $2Bill increase in the buyback will probably be used to limit future dilution due to options.
What this means is ... if you believe the market is still the place to invest in 2015 ... a buying opportunity may be near in STX and WDC.
So far, Mr. Wall Street has refused to acknowledge any economic benefit to be gained from significantly lower oil prices. Only the negative side. Regardless of al the other BS, it still comes down to profits. And profits will be helped by a better economy.
My take is: Listen carefully to what both STX & WDC say.
The CC and color provided by WDC was significantly more positive sounding than what STX sounded like. In reality, maybe Milligan is better at crafting his commentary relative to the very straight-shooting Luczo. And I suspect both are crafting their commentary towards MOFCOM.
WDC used a word several times that was important: "expectations." Where Luczo complained about unnecessary price aggression (which spooked everybody), Milligan said they witnessed nothing outside their expectations. Where Luczo said we need higher margins, Milligan said we're going to get higher margins because we're going to ship more higher margin products (mix up).
Both are probably right - it just depends upon your expectations.
Now, there was one point Luczo brought up, which you bring up, which we have not heard mentioned heretofore, and which WDC said nothing about (maybe because they are at a pivotal point in their discussions with MOFCOM): there are still 5 competitors in the client space. Here is the commentary from Luczo:
"Well, I think in terms of consolidation, remember in client space is still five competitors. A lot of people forget and I get it, because of two of the entities owned by, if you will, parent corps. The reality is, given the whole separate agreement, that's been dictated by the Chinese government.
There are five competitors in the notebook space and in the desktop space, although Toshiba is maybe not quite as strong there as they are in the notebook space. So, I think until that gets resolved, we're going to have this imbalance. Again, it's just an economic dislocation of that. It will adjust one way or the other. "
I think Luczo is positioning STX (and the industry) to push MOFCOM to lift the restrictions and let the consolidation be consummated. Without this consolidation, the industry will not be able to make the investments needed to support the storage industry.
And he's right.
And impressively, WDC STILL had $243Mill in cash flow left over after paying off $773Mill to STX. Just one qtrs. cash flow! Can they please payout more to shareholders?
EPS beat by 15c, rev beat by a little.
They est. the TAM at 141Mill, GM flattish to up, and market share actually a little down q-to-q. So everybody will point the finger at Toshiba - whom MOFCOM is protecting.
Now, you have to wait over an hour to hear them say stuff not much different from STX.
Luczo provided a foreshadowing of a warning a few weeks ago concerning some pressure on enterprise drive margins. Somebody is pushing just a little, and margins need to go up to support the R&D for enterprise drives. 28.x% is not good enough.
So they want the margins to start going up. Either the margins go up, or the storage world will start coming up short (not enough R&D, not enough areal density growth). This is a somewhat longer-term concern.
The other thing is the TAM may have been a little light both last qtr and for Mar qtr. Projected rev just below estimated. But they expect Mar qtr to probably be the low for the year (rather than June). This is the short-term issue.
Exactly what was expected: everything is in-line ... no surprises. But like I said, somebody is looking real close for the pimple: Yahoo has the avg EPS est at $1.35, AP reports $1.36. STX reported $1.35, so the headline is a miss. Rev est was $3.72B (AP) or $3.74B (Yahoo), STX reports $3.7B. Again, gets reported as a miss. Whoopee frick'n do!
No surprises in either direction ... stability.
I think the proper question should be: why is there so much discourse on many other boards?
A greater volume of discourse does not guarantee a higher value of content. My observation over about 20 yrs of board participation is that a greater volume of on topic discussion usually results when there is a greater degree of disagreement, or something has gone amiss, or conditions have gone to extremes.
The HDD industry has not been any of that for about 3 yrs. It has been very stable (compared to pre-2011 years) thanks to the realization by the duopoly (STX & WDC) that market share gambits cost far more than they yield. Not that there is significant excess capacity with which to play such gambit. Also, it helps that both STX & WDC have been increasing dividends and share buybacks over the years, helping the stock price outperform the general markets.
So don't expect any surprises from either company on earnings. They earn good money, pay a decent dividend and still have a below average market valuation. Their business is expanding, even if slowly. But they keep generating cash and returning it to shareholders.
Of course, that won't keep the traders mollified. There's plenty of "how to play the earnings report" articles, or the "Will XXX beat earnings?" articles, or blah blah blah .... whatever people can come up with to bump up MCV. Somebody will make a big deal about one of the pimples on Kate Upton's face, ignoring the rest of the killer body.
"Jim Chanos: I'm short Intel on PC concerns"
"Jim Chanos, head of the world's largest short-selling hedge fund, told CNBC on Friday that he's been short Intel for about six months because of his concerns about the personal computer business. "
Intel is up 36% over the last 6 months. Brilliant!!! Why didn't he tell us 6 months ago so we could buy more!!???
I read that the other day - it was included in a write-up where he downgraded Tech-Data and CDW to sell, and he backhanded the HDD space:
"Shope says he has a cautious view on the IT hardware sector, including Ingram Micro (NYSE:IM), Seagate Technology (NASDAQ:STX) and Western Digital (NASDAQ:WDC). He rates those three stocks as neutral.
In the IT hardware sector, Shope says his favorite stocks are Apple (NASDAQ:AAPL), EMC (NYSE:EMC) and Nimble Storage (NYSE:NMBL), all of which he has given buy ratings.
"Company-specific product cycles will set leaders apart," Shope wrote. "Apple, EMC and Nimble all have important product cycles that will be key to 2015 performance."
This guy is definitely stuck pre-2011 - it's almost like he's been living under a rock for the past 4 years.
He likes EMC? Where would EMC be without WDC & STX??? Not just downplaying a recovery in PCs, and nearly ignoring the server upgrade cycle (it's real, and it hurts ... so much time and effort has to be put into replacing a server), but completely ignores the unending and unrelenting data explosion. Is this the year of 4K, or is that next year? Will there be enough storage space?
But the HDD guys are no longer just HDD guys! STX looks more like EMC than a HDD company. And you want to talk company-specifics? WDC & MOFCOM - I think 2015 is the year the shackles come off.
Yeah, vsor - I didn't miss the GoldmanSucks luggerheads at all.
I'll take a SWAG that the answer was provided later in the article ....
“The industry has set itself up for 28% to 32% gross margin business,” says Luczo. “That is probably the right margin structure for the next five years.”
“But if the mix changes to more near-line and enterprise types or stowage, which it is, that margin is not enough to fund the investment in R&D over a longer period, say, ten years.”
Enterprise drives have always had a significantly better margin profile. As such, the remaining 2.5 manufacturers really want to increase sales of enterprise drives. Which can lead to less discipline. But the R&D required to develop and support enterprise drives is greater than Desktop. If somebody (either a supplier and/or customer) thinks they can drive enterprise margins in the direction of desktop margins .... well, that idea is inconsistent with the long term development of enterprise drives. Which is where all the R&D is going.
My guess is Toshiba may be pushing. It is the smallest and small market share gains can show large results in the HDD division.
I've installed it plenty of times, and it works fine. Also had it fail a few times due to peculiarities in the operating system. Much to Microsoft's chagrin, every computer system is unique. I don't care if you think your system is "plain vanilla," it isn't. The last website you visited may have made it unique enough to fail a piece of software.
But the most obvious source of failure: make sure you install the software with admin rights - even if you think your account is an administrator.