VMware's Scorching IPO

In the month leading up to today's IPO, VMware (NYSE: VMW  ) got some sugar-daddy friends. Cisco (Nasdaq: CSCO  ) wrote a check for $150 million, and Intel (Nasdaq: INTC  ) also signed over $218.5 million in exchange for an equity stake. Those deals provided some rocket fuel for the company's market debut, which saw shares skyrocket 76% to $51. The company now sports a market cap of $19.1 billion. Keep in mind that EMC (NYSE: EMC  ) bought VMware in 2004 for a mere $625 million, and will still hold 87% of the shares.

Back in the 1990s, a group of super-smart computer scientists from Stanford dusted off the concept of virtualization, which was once popular with mainframes during the 1970s. The technology made it possible to create more than one virtual machine on a single physical server.

It was a "eureka!" moment. With data-center space running about $1,000 per square foot, and power usage at about $560 per server, the cost savings of using virtualization can add up fairly quickly for customers. As a result, VMware has enjoyed crushing demand, roughly doubling its revenue every year since 1999.

More than midway through 2007, that demand continues apace. In Q2, total revenue spiked 90% to $296.8 million, while license revenue rose an impressive 80% to $204 million. License revenue is critical, since it tends to lead to ongoing service and maintenance fees. Operating income climbed 81% to $46.7 million. I suspect the amount could be higher, but VMware has continued to invest in research and development and marketing/sales to continue its growth ramp.

VMware does more than simply helping customers slash costs. The company has essentially created a core platform that assists with security, change management, systems availability, desktop management, and more, and it undoubtedly plans to further augment that list.

With the help of more than 5,000 distribution partners, VMware's 20,000 total customers now include all of the Fortune 100, and 840 of the Fortune 1,000.

VMWare's main rival is Microsoft (Nasdaq: MSFT  ) . However, Mr. Softy's current offerings are entry-level, and its enterprise-class solutions won't hit the markets until late next year. Meanwhile, VMWare has a suite of 17 products, and its flagship offering is in its sixth generation. In the tech world, VMware has become synonymous with virtualization.

VMware's revenue run-rate is about $1.2 billion, giving the company a price-to-sales multiple of 16. Even for a company with strong barriers to entry and enticing growth prospects, that's not cheap, particularly given the considerable hype surrounding its IPO debut. In other words, Foolish investors are probably best off waiting for things to calm down before thinking about grabbing some shares.

Further Foolishness:

Intel and Microsoft are both Motley Fool Inside Value recommendations. Learn more today by signing up for a free 30-day trial.

Fool contributor Tom Taulli, author of The Complete M&A Handbook, does not own shares mentioned in this article. He is currently ranked 2,645 out of more than 60,000 participants in Motley Fool CAPS.


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