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Seagate Goes Hybrid

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The long-term prospects of hard disk drive titans Seagate (NASDAQ: STX  ) and Western Digital (NASDAQ: WDC  ) have not looked good. In a recent article, I argued the logic of being bullish on this industry if personal computers are indeed beginning to die. It stands to reason that HDD manufacturers such as Seagate should perish as well. But Seagate has other ideas.

Can hybrids improve the economics of storage?
The company has introduced its third-generation SSHD, or solid state hybrid drives: the Seagate Laptop SSHD, 7 mm-high Seagate Laptop Thin SSHD, and the Seagate Desktop SSHD. I think this is a smart move by Seagate, especially since Apple (NASDAQ: AAPL  ) recently announced its Fusion Drive, which is said to boot much faster while offering better read/write performance.

Scott Horn, Seagate's vice president of marketing, describes them this way:

Our new SSHDs serve up your favorite content with the lightning-fast performance you have to experience to believe. With these new drives it's like adding a turbo-charge to your PC, without having to sacrifice capacity, at a price that's easy on your wallet. Now consumers can create, store and consume digital content like a pro without having to spend like one.

Even though Apple has not used the term "hybrid" to describe Fusion, the word is being used by writers and analysts in their descriptions. So if Seagate and Western Digital, which began shipping its own hybrids in January, are moving into the SSHD platform to support new industry standards from (among others) Apple, then it's good idea. But how well will this work? More specifically, can hybrids change the economics of the desktop storage business?

That's the question investors must first answer, which was the thesis of my previous sell recommendation. While Seagate has been able to fight the increased adoption of solid state drives, or SSDs, the company now understands that it can't fight the rise of mobile devices infinitely. Essentially, evolve or die. But these hybrids look more like a "gap-closing" solution than anything "game-changing." And Horn's description of "adding a turbo-charge to your PC" sounds familiar.

Yes, yes, very impressive, but...
While the features boast tons of speed and performance, there's a part of me than thinks... so what! As groundbreaking as these new SSHD drives might be, they are still just internal components of an industry that's in decay. But Seagate is not the first to attempt "the next big thing in PC." It's a good idea, but investors have to prepare for a possible thud if expectations become too unrealistic.

There's still a bigger issue at hand. Intel has not been able to excite consumers with new/faster PC chips. Even though they have consistently improved over the years, the company has still posted year-over-year declines in chip revenue the past three quarters. Likewise, even though Microsoft's (NASDAQ: MSFT  ) new Windows 8 operating system was a step in the right direction, the adoption among consumers have been far below the company's expectations.

Plus, a case can be made that Microsoft's soft Windows 8 sales have translated to year-over-year PC revenue declines from Dell, which has packed its bags to regroup. Likewise, although Hewlett-Packard's (NYSE: HPQ  ) new line of ultrabooks are improved, Windows 8 did very little to revitalize sales. Consequently, HP's still stuck trying to reinvent itself. In other words, the PC death effect is real. So it's not exactly reassuring to hear Seagate describe its hybrids as turbo-charged PCs.

How long can this transition last?
I'm not certain that producing new hybrid drives is enough to get investors excited. It gets the job done from the standpoint that it's an important intermediate step, but that's as much credit I'm willing to give. Granted, personal computers are not going to vanish overnight. But it's no longer a growth business, either. And Seagate's second-quarter results revealed some underlying weaknesses.

Average selling prices, or ASPs, fell 7% year over year and 3% sequentially. ASPs also hurt profitability as the company struggled with product mix. And even though margins arrived in line with estimates, they weren't very strong. The company posted 4% year-over-year drop in gross margin, while shedding 1.5% sequentially. Similarly, there was a 8% decline in operating income, which fell 13% from the first quarter. It's still unclear how Seagate is going to sustain this transition without near-term changes to the business model.

What of the stock?
The stock is cheap, but there's no compelling reason to buy here. While the fundamentals are indeed solid, the long-term risks are still there. And placing a bet here assumes that there will be a reversal of fortune at some point. And investors have to decide how much time this company has.

Is Seagate worthy of your investment consideration (and dollars)? The Motley Fool answers this question and more in our most in-depth Seagate research available for smart investors like you. Thousands have already claimed their own premium ticker coverage, and you can gain instant access to your own by clicking here now.

Read/Post Comments (3) | Recommend This Article (0)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On March 11, 2013, at 6:32 PM, havoc007 wrote:

    first and foremost, the drive companies have had the hybrid concept for a few years already.... WAY before Apple tried to 'Market' or should I say 'Innovate' the idea. Heck, they couldn't even 'Innovate' the name, as another company already has the name trademarked... Fusion IO (FIO).

    as for --- I'm not certain that producing new hybrid drives is enough to get investors excited

    the massive annual EPS that WDC/STX derives from their 'chronic death by a thousand ssd's', gets me excited, in fact, it gives me a big boner!

  • Report this Comment On March 12, 2013, at 2:30 PM, ARH213 wrote:

    havoc007 - Could not agree with you more!

  • Report this Comment On March 26, 2013, at 2:03 AM, jschwarzbart wrote:

    I'm delighted you (and so many others) feel that way. I love this stock. Did you ever look at one of those graphs of global disk space consumption? It's still accelerating! And it doesn't matter that the platters aren't going into your laptop/desktop/tablet. The more photos you store on Instagram, the more videos you doing silly stuff your friends upload to youtube, the more junk you leave in your yahoo inbox, the more you bank online, purchase online, share online, etc, the more disk space there has to be _somewhere_. You don't see it, but google, yahoo, amazon, etc are buying the stuff like mad so you don't have to think about it. And that pays my dividend. And when you and everyone else realize that Seagate and WDC are still banking big $$$, trying to keep up with all that demand, my dividends will have bought a lot of what used to be cheap shares. ;-)

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