EMC Earns Its Keep

Man, I hate sounding like a broken record. But, man, EMC (NYSE: EMC  ) has a great business. This morning, the data storage provider reported that revenue increased 34% year over year to $2.03 billion while net income grew 37% to $218 million, or $0.09 per diluted share.

A favorable currency exchange climate boosted EMC's revenue by 3.1%, but that's a pittance when you look at how the core business did overall. Sales in every part of the world grew by double digits, including a 44% jump in Europe. Vive la storage, indeed.

Many other indicators show a business firing on all cylinders. Gross margin, for example, improved to 51.4% for the quarter and 50.7% year to date. That's 7% better than at the same point last year. Finally, get this: Structural free cash flow grew 86% year over year, from $399 million to $742 million.

The only question remaining is whether EMC can continue to do as well as it has done. Management seems to think so. Fourth-quarter estimates call for revenue between $2.23 billion and $2.27 billion, with per-share earnings coming in at $0.11 to $0.12. At that rate, structural free cash flow should easily eclipse $1 billion for the year.

I admit it: I still love this business. In fact, I love it even more with each successive quarter. Yet EMC's stock options policy continues to hurt its results. Indeed, had options been expensed -- as they will be beginning next summer -- EMC's reported net income would have been 40% lower. Ouch.

Fortunately, there have been some improvements in EMC's options policy. Though dilution remains high at roughly 9% -- well above the 3% to 5% we recommend for growing firms -- overall options grants are down, and more than 50% of EMC's outstanding options are out of the money. (CEO Joe Tucci has gone on record saying management won't reprice them.) Plus, 20% of EMC's options issued last year were in relation to acquisitions that have helped fuel the firm's remarkable turnaround.

Still, in an interview this morning, EMC Chief Financial Officer Bill Teuber noted that the company would continue buying back shares to offset dilution. Indeed, the firm has already spent better than $400 million to retire 37 million stubs this year. Sorry, Bill, but I think that stinks. Why? Because EMC's stock isn't cheap. If anything, EMC appears fairly valued trading for 23 times expected cash flow to enterprise value.

But should this really keep you or me from investing? After all, as Fool co-founder and Motley Fool Rule Breakers chief analyst David Gardner put it to me yesterday, there are plenty of market-trouncing stocks that dilute like crazy, such as Motley Fool Stock Advisor picks eBay (Nasdaq: EBAY  ) and Activision (Nasdaq: ATVI  ) . True, indeed. And given the underlying strength of its business, EMC could be a prime candidate to follow in their footsteps.

For related Foolishness:

  • Bah! Who cares about EMC? VERITAS (Nasdaq: VRTS  ) is trading at a discount, and Network Appliance (Nasdaq: NTAP  ) may be the one to beat for smaller storage deployments.
  • Still, EMC's most recent quarterly performance was enviable.
  • And the firm has, so far, proven to be a savvy shopper.

David Gardner has taken the market-beating approach first used in the Motley Fool's real-money Rule Breaker Portfolio to average Janes and Joes in hisMotley Fool Rule Breakersnewsletter. You can get in on the action by taking a free, 30-day trial.

Fool contributor Tim Beyers is seriously contemplating buying stock in EMC, but the Foolish rules require that he wait a while. You can view Tim's Fool profile and stock holdings here.


Read/Post Comments (0) | 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.

Be the first one to comment on this article.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 502633, ~/Articles/ArticleHandler.aspx, 8/27/2014 8:54:51 AM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...

Apple's next smart device (warning, it may shock you

Apple recently recruited a secret-development "dream team" to guarantee its newest smart device was kept hidden from the public for as long as possible. But the secret is out. In fact, ABI Research predicts 485 million of this type of device will be sold per year. But one small company makes Apple's gadget possible. And its stock price has nearly unlimited room to run for early-in-the-know investors. To be one of them, and see Apple's newest smart gizmo, just click here!


Advertisement