This High-Flying Stock Just Received a Reality Check
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It seems like Seagate Technology’s (NASDAQ: STX) good times have hit a roadblock. The hard-drive maker made a lot of money selling drives at a higher price in the aftermath of the Thailand floods due to constrained supply. But the good times couldn’t have continued forever as I had said last year, and Seagate is now facing some of that reality.
Hitting a speed breaker
After a searing run which saw the stock gain more than 75% over the past year on the back of supernormal sales and profit, Seagate might have hit a speed breaker now. Although the company topped estimates in its recently-reported second-quarter, wherein it witnessed a 15% jump in revenue, its shares lost almost 9.5% after the report.
Its gross margin dropped to 27% from 31.6% last year, adjusted earnings more than halved, and the outlook left a lot to be desired. Seagate’s revenue expectation of $3.25 billion to $3.45 billion for the ongoing quarter is not just behind the consensus, but it is also 24% below what the company reported in last year’s third-quarter at the mid-point.
Thus, it seems that the end of supernormal revenue has finally arrived. Moreover, Seagate has some greater challenges lying ahead. Industry-wide shipments of hard drives declined 3% in the quarter and this doesn’t make for a good reading even though Seagate commands 43% of it. The company has to contend with declining PC sales, apart from a slow moving economy, and has to make some notable headway into tablets and smartphones as that’s where consumers are moving.
Also, it seems that Seagate is losing market share to rival Western Digital (NASDAQ: WDC) and this compounds its troubles. Western Digital’s hard-drive shipments in the in its previous quarter came in at 59.2 million, representing a jump of almost 108% from the year-ago period. In addition, Western Digital’s results were aided by its high-margin enterprise business which grew 10% from last year, as reported by Reuters.
A strategic move
The odds are stacked against Seagate, and it would probably find it difficult to recreate last year’s performance in 2013. The company is among the leaders in PC hard-drives, but it doesn’t enjoy the same hegemony in tablets and smartphones where the likes of Samsung and Toshiba rule the roost. Thus, its $40 million investment in flash-based storage-class memory maker Virident Systems looks like a step in the right direction.
Seagate aims to use Virident’s expertise to make enterprise-class solid-state drives (SSD) in the future, and this should help it in improving its position in the industry. According to The Register, Virident’s architecture closely resembles that of SSD leader Fusion-io (NYSE: FIO).
Fusion-io’s revenue has consistently risen on the back of its enterprise strength and the company is looking to take it to the next level through ioScale. This product aims to provide enterprises with a capacity of 3.2 terabytes without requiring “a large fleet of servers” according to Fool analyst Rick Aristotle Munarriz. Thus, Seagate’s investment in Virident is a signal of intent that it is going after the SSD leader, and was probably the reason behind Fusion-io’s 5% decline after the news came out.
Declining sales of PCs will undoubtedly take a chunk out of Seagate’s revenue, but the company will find opportunity in the future in the form of cloud computing, data centers, and other enterprise applications. However, it needs to ward off competition from Western Digital in its traditional hard-drive business along with SSD companies. For this, Seagate’s product development needs to be top notch or else market share losses and failure to penetrate into SSDs would cost it in the long run.
TechJunk13 has no position in any stocks mentioned. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!