Is This Stock a Good Buy Now?

Anh is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Active investor Paul Singer has picked up a significant stake in NetApp (NASDAQ: NTAP). According to Businessweek, his firm, Elliott Management, might press the company for board seats to unlock shareholder value. NetApp is also in the portfolio of Larry Robbins, Joel Greenblatt, and Paul Tudor Jones. Since the beginning of the year, NetApp has risen close to 13%, lagging the S&P 500’s return of nearly 17%. Should we follow Paul Singer into NetApp? Let’s find out.

Fast growing, cash cow, and a strong balance sheet

NetApp is the leader in innovative storage systems and data management solutions with two storage platforms, unified FAS storage systems and E-Series systems. The majority of its revenue, $4.21 billion, or 67.5% of the total revenue, was generated from product sales. Service sales ranked second with $1.2 billion in revenue in 2012, while software entitlements and maintenance contributed only $812.2 million in 2012. Its two biggest distributors were Arrow Electronics and Avnet, accounting for 17% and 12%, respectively, of the total revenue in 2012.

In the past five years, NetApp has experienced decent growth in revenue and net income. Revenue increased from $3.3 billion in 2008 to $6.23 billion in 2012, while net income rose from $310 million to $605 million during the same period. What makes me interested in NetApp is its improving cash flow. The operating cash flow has increased from $195 million to $1.46 billion since 2003, whereas free cash flow has climbed from $134 million to more than $1 billion. Furthermore, NetApp has a strong balance sheet. As of January 2013, it had $4.62 billion in equity, $6.72 billion in cash and short-term investments, and only $2.23 billion in debt. The market values NetApp at 10 times EV/EBITDA.

Another global leading company in the storage system industry

Compared to its peer, EMC (NYSE: EMC), NetApp has a higher EV multiple. The market values EMC at around 8.3 times EV/EBITDA. EMC is also one of the global leading companies in the IT information storage industry with two broad categories: EMC Information and VMware Virtual Infrastructure. The Information Storage segment was the biggest revenue contributor, with $15.6 billion in revenue, while the VMware Virtual Infrastructure ranked second with nearly $4.6 billion in sales.

EMC has kept innovating its products for better cloud infrastructure technology. In the middle of May, it announced the New EMC Proven Solutions for private clouding computing for customers to move SAP solutions workloads to private cloud infrastructures. Moreover, the new solution has automated disaster recovery of SAP solutions, including application consistent failover, point-in-time recovery, and non-disruptive failover testing.

According to IDC, in the fourth quarter 2012, both EMC and NetApp grew their storage revenue by 7.3% and 6.3%, respectively, while Hewlett-Packard (NYSE: HPQ) experienced a drop in storage revenue. The revenue of Hewlett-Packard’s total disk storage systems decreased 8.8% to $1.4 billion, while the external disk storage systems revenue came in at only $626 million, 7.4% lower than the fourth quarter in the previous year.

Hewlett-Packard and its bad acquisition

Hewlett-Packard has been quite famous for its “due diligence” practice when it wrote off as much as $8.8 billion from its $11 billion acquisition of Automony. In the $8.8 billion impairment charges, about $5 billion was due to accounting misrepresentation. Recently, Hewlett-Packard’s shareholders sued the company because of its Autonomy acquisition.

According to Bloomberg, Autonomy had purchased goods from its customers and pursued aggressive revenue recognition practices, which were called “round trip transactions.” Even with the huge write-down, its goodwill and intangible assets were still quite large at more than $35.2 billion, accounting for more than 40% of its total assets. The large goodwill and intangible assets are quite vulnerable to future impairment, which could negatively impact the company’s share price.

My Foolish take

NetApp seems to be a good stock to purchase at its current trading price due to its market leading position, strong balance sheet, and little goodwill and intangible assets. Moreover, with the involvement of Paul Singer, NetApp’s hidden value could be unlocked in the near future and/or the company might be a potential buyout target for the larger IT firms. 

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Anh HOANG has no position in any stocks mentioned. The Motley Fool owns shares of EMC. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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