EMC's Centripetal Force

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What a difference a quarter makes.

Actually, not even a quarter. Just two months ago, EMC (NYSE: EMC) CEO Joe Tucci told investors he had "absolutely no interest" in spinning off its remaining 85% interest in software virtualization subsidiary VMware (NYSE: VMW). A few weeks and a single disastrous day's worth of miserable news out of the latter, however, and Tucci is already sounding as though he may be ready to deal.

Interviewed by Reuters post-earnings, Tucci opened the door to a spinoff. He's backtracking from his "absolutely no interest" position of yester-month.

So that's good news?
Not if you're a VMware shareholder, it isn't. After all, the stock's low float and high demand act in tandem to support VMware's share price. Add more shares to the float by spinning off the stock, and you knock out one of the legs supporting the stock. (Incidentally, VMware shed 6% of its value yesterday -- but its own earnings report may have had something to do with that.)

Parent company EMC fared better, with shares up more than 12% since reporting a mammoth 18% leap in Q2 sales. But does EMC deserve to rise while its subsidiary takes a dive?

I think not
And here's why. EMC tacked on 80 basis points' worth of gross margin this past quarter, grossing 55.2% of sales. But what lower cost of goods sold (COGS) gave, operating costs took away.

Selling, general, and administrative expenses surged, and even a reduction in research-and-development expenditures still left the company with a lower operating margin this year than last -- ahead of Hewlett-Packard (NYSE: HPQ), still lagging IBM (NYSE: IBM), and way behind Vasco Data Security (Nasdaq: VDSI), with which EMC's RSA division competes. In the end, EMC ended the quarter with profits up just 12% at $0.18 per share. Meanwhile, free cash flow so far this year is up just 8% -- less than half the pace of sales growth -- at $1.1 billion.

Yet …
So this is the point where I tell you to sell EMC, right? Not quite. Although profits growth is a mite short of "robust," this stock still looks fairly priced to me. Valued on its trailing-12-month free cash flow of around $2.3 billion, I see EMC as priced at about 13 times free cash flow, which is not an unreasonable price for a predicted 12% grower. Now all EMC needs to do is produce the growth.

Tick-tock.