2 Stupid-Cheap, Return-Juicing Stocks
Chris is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
A few weeks ago I was in the market for an external disk drive, so I ask my tech-savvy, I-know-all-things-electronic friend Kyle what brand to buy.
Buy Western Digital (NASDAQ: WDC) or Seagate (NASDAQ: STX), he tells me. And Toshiba isn’t bad either, he throws in. So I take his advice and research the brands.
Seems I got more than I bargained for. I may end up buying more than just their drives – I may want to own part of these companies as well. Here’s why.
First, both companies have stupid-cheap price to earnings ratios. Western Digital’s currently sits at 7.5 while Seagate’s rests at 6.1. And that’s not even the best part – the companies are trading at a paltry 4 times and 3.4 times next year’s earnings, respectively.
Confirmed. They’re stupid-cheap.
Second, these companies boast very high barriers to entry. The disk-drive market has seen scores of firms come and go. Mix together acquisitions, mergers, and company blow-ups, and you are left with a blunt reality.
There are only three major players left. Western Digital picked up Hitachi GST and Seagate swallowed Samsung’s drive unit to give those companies a commanding 90% market share, with Toshiba cleaning up a fair share of the remainder.
Third, we are seeing a tremendous growth in the cloud storage market. For an example, consider that the lifeblood of Amazon and Google is their data centers. Where would these companies be if they could not scale their data storage? On the fast-track to implosion.
And who makes storage space for data centers? You guessed it – our favorite two stupid-cheap stocks.
Consider this. Seagate CEO Steve Luczo believes that by 2015 or 2016, the disk-storage industry will ship a zettabyte of data. According to Luczo: “A zettabyte is equal to all the data that’s been digitized from 1957 through 2010.” And he believes that by 2020, the world will ship somewhere between 7 and 35 zettabytes of data, a whopping 17.5 times the 400 exabytes of data storage sold in 2011 (assuming the low-end of 7 zettabytes is sold in 2020). That said, demand looks promising.
In fact, Dell (NASDAQ: DELL) reported a negative forecast earlier this year, due primarily to decreased margins resulting from decreased supply and increased prices of disk-drives. A flood in Thailand in late 2011 caused prices to spike, as Western Digital and Toshiba were forced to close their local plants. While Seagate remained largely unaffected by the disaster, “Until the floodwaters came, a single facility in Bang Pa-In owned by Western Digital produced one-quarter of the world’s supply of ‘sliders,’ an integral part of hard-disk drives,” reports the New York Times.
Buyouts and the Like
Even though the disk-drive market has become consolidated, acquisitions are still a possibility. Dell, IBM (NYSE: IBM), or Hewlett-Packard (NYSE: HPQ), for example, could acquire any of the major players. Such an acquisition would allow these behemoths to become more vertically integrated, hedging any further pricing spikes in their much-coveted storage devices.
However great this sounds, I do not expect it to happen. Despite the fact that buying an under-valued company would boost the value of the major company, the software market traditionally offers better returns on capital. Therefore I expect Dell, IBM, and HP to live with the pain of higher prices for now and invest their capital into software.
Conclusion
If you like under-valued stocks with high product demand, high market share, and high barriers to entry, consider Western Digital and Seagate. They may just be the juice your portfolio needs to ramp up returns throughout 2012.
ChrisMarasco has no positions in the stocks mentioned above. ChrisMarasco has no positions in the stocks mentioned above. 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.
