Seagate & Western Digital: Earnings Present Foolishly Cheap Opportunity
Brian is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
For the last month, computer storage industry leaders Western Digital (NASDAQ: WDC) and Seagate Technology (NASDAQ: STX) have sold off hard in anticipation of weak demand for PCs and hard-disk drives, or HDDs. And although Western Digital traded lower after hours on Oct. 22, it still showed that demand isn’t as bad as anticipated, and that it’s presenting a great investment opportunity.
Last month, Western Digital warned that revenue for this last quarter would be lower than expected. The company had said that demand for hard-disk drives had fallen flat, and that it was facing inventory rebalancing issues. This combined with weak guidance from Intel, Seagate Technology, and a slew of downgrades from analysts have pushed Western Digital shares lower by 12% in the last month, while Seagate has lost 8.5%.
On Monday, Western Digital announced earnings that were strong by all measures. The company reported revenue of $4.04 billion, a 50% gain year over year, and a profit of $519 million, compared to $239 million last year. The company’s gross margins expanded to 29.6% from 20.1%, and the “struggling” HDD shipments reached 63 million units, compared to 58 million in 2011. Overall, I call this a phenomenal quarter, one that all investors should be happy with.
After the company announced earnings, the stock immediately jumped 3%. Both Western Digital and Seagate Technology tend to trade in the same direction, so Seagate also jumped on the news. But soon after the announcement, both stocks began to fall. Western Digital has now dropped 8% in after-hours trading. Seagate Technology is also trading lower after hours, by 5%. However, both moves are hard for me to comprehend, especially considering that both had traded lower in the last month while anticipating weak earnings.
Foolishly Undervalued Opportunity
If you’re a long-term investor in either Seagate or Western Digital, then you really don’t have any reason to complain. Seagate has traded higher by more than 80%, and Western Digital by nearly 40%, in the last year. Both stocks are trading with price-to-sales ratios of less than 1.0, and both are priced at less than 4.4 times next year’s earnings. When you consider other companies in the industry such as EMC Corporation and NetApp trade at over 11.5 times next year's earnings, and the technology sector at an even greater premium, Seagate and Western Digital look like even better values.
As an investor, I don’t think you can go wrong with an investment in either stock. The weakness in both stocks after Western Digital’s quarterly announcement should be seen as an opportunity, rather than a disappointment.
The industry for HDDs is going through a transition, and everyone who follows the space expects short-term problems. However, the long-term prospects remain strong, as both companies benefit from the tablet and smartphone era due to the continuous need for more storage and data.
In the past, I have said that both stocks were pricing in the slowed growth in the industry, but after the reaction to Western Digital’s earnings, I believe investors have oversold any potential problems. The earnings of Western Digital prove that the market was better than expected, and with the holiday season right around the corner, any boost in demand will be welcomed with large gains.
Foolish Conclusion (Which is Better?)
Like I said, I think both stocks are a buy. But I have chosen to invest in Seagate. It's investor-friendly, with aggressive buybacks and a 4.5% yield. In just one year, Seagate has increased its dividend by more than 75%! In this economy, Seagate is the kind of company I want to own, a company that apparently cares for its shareholders. But like I said, you can’t go wrong with either one.
The Big Picture
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BrianNichols owns shares of STX. The Motley Fool owns shares of Western Digital. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.