VMWare, EMC Going Gangbusters

Lazard Capital Markets estimates that the server virtualization software market will grow 14% in 2010 to $1.28 billion. Software needed to manage virtual environments is expected to grow 44% over the year to $1.88 billion, and desktop virtualization sales are projected to grow 184% in 2010 to $847.8 million.

At VMWare (NASDAQ: VMW), Q2 revenues grew 48% over the year to $674 million, shattering the market’s target of $657 million. New software license revenues grew 42% over the year to $324 million.

In continuation of its technological innovation, the company released vSphere 4.1, an updated version of its virtualization and cloud infrastructure platform. The new release boasts of scalability enhancements and improved performance through open integration with storage environments. vSphere 4.1 has also been priced and packaged for both large and small and medium business market, a segment VMWare believes offers huge potential.

It is not just technology that VMWare is introducing but also newer pricing models. It introduced per-virtual-machine pricing for its management products, which aligns license costs to the number of virtual machines being managed rather than to the physical hardware. The company expects the pricing model to offer customers better alignment between costs and benefits and to be able to better support customers’ needs across diverse hardware configurations without incurring additional costs.

VMWare projects Q3 revenues to be $680 million–$705 million with EPS of $0.34. The market was expecting revenues of $672 million with EPS of $0.32. For the full year, VMWare projected revenues of $2.73 billion–$2.80 billion compared with the Street’s projected revenues of $2.71 billion.

The stock is trading at $77.16 with a market capitalization of $32 billion. It touched a 52-week high of $82.18 earlier this month and has seen a meteoric rise from the $30 levels it was at last year.

IDC recently forecast that the amount of digital data created annually will grow forty-fourfold in the next ten years, fueling the need for new architectures and new tools to help handle this “big data” phenomenon. Data storage leader EMC (NYSE:EMC) is already preparing for such growth.

EMC’s Q2 revenues rose 24% over the year to $4.02 billion, beating the market’s projected $3.98 billion. Revenue growth was driven by its high-end Symmetrix system and mid-range storage products, which grew 32% and 33% respectively. For the quarter, EPS of $0.28 rose 56% over the year and was a cent higher than the market’s expectations.

During the quarter, EMC bought back 18.6 million shares for $341 million.

EMC ended the quarter with $10.3 billion in cash and investments and is looking to invest these funds in acquisitions that will help it move toward the cloud-based generation of storage technology.

Earlier last month it acquired Greenplum, a privately held provider of disruptive data warehousing technology, a key enabler of “big data” clouds and self-service analytics. EMC is looking to leverage Greenplum’s data handling technology with its own virtualized private cloud infrastructure to provide customers with a best-of-breed solution for big-data challenges. Analysts expect the acquisition to help EMC join the ranks of vendors such as Oracle and IBM by transforming it into a one-stop shop for data warehousing hardware, software, and services.

For the year, EMC now hopes to surpass its earlier projections of EPS of $1.18 on revenues of $16.5 billion. The market was expecting revenues of $16.64 billion with EPS of $1.20.

EMC’s stock is trading at $18.77, taking its market capitalization to $39 billion. It touched a 52-week high of $20.97 earlier this month.

Lazard estimates VMWare to hold nearly 80% of the server virtualization software market. Gartner lists VMWare as the only “leader” in the software vendor category for server virtualization. I am convinced of both EMC’s and VMWare’s potential. At the current market prices, VMWare is valued at over $30 billion. EMC holds an 80% stake in VMWare yet is valued at about $40 billion. This tells me that the EMC stock is grossly undervalued. To get the real value out of it, EMC will need to spin off VMWare altogether, although there are numerous tax implications for such a sale.