When I last looked at VMWare’s (VMW) IPO performance in August 2007 (first IPO’d at $26 and closed at $58/share), I noted there was no disappointment. Well, until recently, that was a subtle understatement. EMC’s spinoff hit a high of $125/share in October, only to be let down due to the general tech selloff last week. In short, VMWare’s market cap ballooned to almost 4.8 times its initial IPO market worth.
Much was due to the explosion of interest in virtualization taking hold of the IT infrastructure world, burdened heavily with physical servers and looking for release. But come earnings time, the numbers had to back up the expectations. And with an 86% stake in VMWare as its spinoff, EMC laughed its way to the bank.
EMC posted Q3 consolidated revenues of $3.3 billion, up 17% from Q3 last year. Net income increased to $429.3 million, a 77% increase (partly from a partial sale of VMWare ownership to Intel). When drilling down into the business segments the earnings parse out as such:
EMC reiterated in its earnings call that the company was on track to exceed January estimates of $12.7 billion of revenue. With the same confidence, EMC doubled its share buyback plan to $2 billion.
VMWare itself posted net earnings of $85 million and gross revenue of $357.8 million, doubling its previous figure and far higher than the analyst estimate of $334 million. Despite the stellar performance, VMWare was mum on future guidance. However, large companies and government agencies have been putting a check on buying physical servers and implementing VMWare in their systems (think of the visual of an empty white room and one server in the IBM commercial). So as I noted in August: VMware totally dominates the rapidly emerging server virtualization market, demand is high, and the value is obvious: install VMWare, reduce hardware expenses.
Analysts missed the EMC view at first, pricing EMC as missing revenue in its core functions, but based on the earnings report they reversed as they picked up on supply companies receiving favorable orders from EMC for Q4. However, the general expectation of a weak economy in 2008, the turmoil of the financial market, and Dell acquiring EqualLogic (a competing virtualization provider, although they are trying to position as a VMWare partner) viewed as posing a long-term threat continue to persist. The competition threat so far has been overblown; Microsoft posed the same concern early on, and its software version ended being a non-event to VMWare’s momentum. Additionally, EMC historically posts a weak Q1 due to seasonality, and that is a well-understood fact.
How did the market react? It eventually increased EMC to a high of almost $26/share before the November tech fallout brought it back down to earth, a pretty good increase considering the stock was under $13/share in January 2007. As for VMWare, its stock hit the ceiling at $125/share before suffering the same fate of November’s selloff. However, it still floats in the low $90s as of this article with high expectations of being dubbed “the next Google.”
EMC, with a market cap of $49.33 billion, continues to be a bargain approach to ownership of VMWare, especially this week with a price drop under $20/share. The valuation gap between the two companies still obviously exists ($92 versus $20), and although VMWare has dropped a bit that disconnect will likely continue for the forseeable future. VMWare will still have the higher price due to expectations of its growth and a lack of real competition in the virtualization market.
So you continue to have a choice on how to get on the virtualization gravy train: buy the Lexus in VMWare if you can afford it on a bargain day, or get the same value in the Toyota pickup truck of EMC. Both are offered by the same company in essence. And the current market volatility is actually a great time to be opportunistic in buying either or both at a relatively attractive price.