The iPhone 5 launch on Wednesday, Sept. 12 is sure to be the most important event for tech investors this year. The Motley Fool will be hosting a live chat where our top tech analysts will answer your questions and break down what the announcement means for Apple and tech investors everywhere. Be sure to swing by Fool.com at 12:45 p.m. EDT next Wednesday for all your coverage of Apple's next big announcement.
At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." Today, we'll show you whether those bigwigs actually know what they're talking about. To help, we've enlisted Motley Fool CAPS to track the long-term performance of Wall Street's best and worst. And speaking of the best...
R.I.P. for PCs?
Reports of the death of personal computers have been greatly exaggerated. Sure, Apple has been eating the lunch of PC makers like Dell and HP lately, and the iPad's advent just added to the damage. For some time now, this has weighed on investor enthusiasm for all sorts of companies whose fortunes are tied to PC parts-sales -- Corning in LCD displays, Intel in semiconductors, and of course Western Digital (NYSE: WDC ) and Seagate (NYSE: STX ) in hard disk drives. But according to one analyst, while the situation's far from perfect, all is not lost.
In fact, one of these companies just might be worth buying.
We still "need" PCs -- and the cheaper, the better
Yesterday, Wall Street banker Needham & Co. weighed in on the industry and its prospects in a long note detailing the ins and outs of the PC memory biz. The analyst led off with an admission: "Headwinds from a weak Europe, weakening China, Win 8 pause, OEM inventory, and lackluster Ultrabook demand appear to have affected [hard drive demand in] September." This lack of demand, warns Needham, is almost certain to shrink profit margins in the industry, at Seagate in particular.
And yet, Needham is not without hope. According to the analyst, consolidation in the hard drive industry will permit both Western Digital and Seagate to command "overall margins ... well above industry norms."
Why is that? Well, part of the reason is right there in Needham's list of factors hurting weak PC demand: "lackluster Ultrabook demand." If Apple is stealing the hard-drive makers' lunch money, at least a second bully (in the form of Intel's Ultrabook initiative, which aimed to boost demand for lightweight notebooks bearing solid-state drives rather than traditional hard disk drives) has failed to materialize in any significant way. Turns out, consumers who are buying PCs continue to opt for cheaper, traditional hard-drive-equipped computers over their pricier SSD-only cousins.
Put a cap on that rally
When OCZ Technology (Nasdaq: OCZ ) admitted yesterday that it was unable to get ahold of enough flash memory to build all the SSDs it wanted to build in Q3, investors quickly swarmed into shares of flash-makers Micron (NYSE: MU ) and SanDisk (Nasdaq: SNDK ) , pushing the stocks up roughly 8% apiece. At first glance, that makes a lot of sense -- if flash memory is in demand, then it makes sense that its makers would be able to charge higher prices for the product, boosting profits in their upcoming quarterly reports.
But what if Needham is right, and SSDs are not taking off? What if OCZ's problems are actually more "OCZ-specific," and not due to some larger lack of flash memory available for sale? In that case, investors may have jumped the gun in imputing OCZ's troubles to the broader market.
Who's on first?
Who's got the better side of this debate -- Needham, which warns that SSD-equipped Ultrabooks aren't exactly selling like hotcakes, or OCZ, which seems to be implying the opposite? I won't lie to you, folks -- I don't know.
What I do know is that we'll know more when Micron reports later this month, and when SanDisk reports in October. And I know that if I were a betting man, I'd be more inclined to favor profitable SanDisk (which I in fact own) over unprofitable Micron (which I don't). But honestly, neither of these companies is exactly swimming in free cash flow these days. (Micron's improved quite a bit in this regard over the past two quarters, but remains FCF-negative for the past 12 months. SanDisk, on the other hand, while still benefiting from last year's numbers, has begun burning cash.)
Given the uncertainties, investors might actually be best advised to follow Needham's advice and take a second look at Seagate and Western Digital as "agnostic" plays on the SSD/HDD debate. After all, both companies have solid-state drive divisions in addition to their core HDD businesses, and so in theory at least, can either zig or zag toward SSDs or away from them, as customer demands dictate.
Both stocks look extremely cheap at current valuations, too, with Western Digital shares going for less than seven times earnings, and Seagate selling for under five times earnings. Both companies sport strong free cash flow, speaking to high quality of earnings. And with analysts' average projection of 18% long-term growth for Western D, and 28% for Seagate, there appears to be a sizable margin of safety in the share prices of both stocks.
Of the two, Needham seems to prefer Western Digital (rated a strong buy) over Seagate (just downgraded to hold). But personally, I think either stock looks totally buyable at today's prices.
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