Foolish Forecast: Make Room for Western Digital

On Thursday night, we'll get a first-quarter 2008 report from hard drive designer Western Digital (NYSE: WDC). This is a downtrodden stock in a hot sector, so this Fool thought you'd like to see how the storage business led into this report.

What Fools say:
Here's how Western Digital's CAPS score rates against some of its peers and competitors:

	Market Cap (millions)	Trailing P/E Ratio	CAPS Rating (out of 5)
EMC (NYSE: EMC)	$52,830.0	35.4	*****
Hitachi (NYSE: HIT)	$22,080.0	N/A	**
Seagate Technology (NYSE: STX)	$14,620.0	12.6	****
Western Digital	$5,520.0	10.1	****
Quantum (NYSE: QTM)	$731.6	N/A	***

Data from Motley Fool CAPS as of Oct. 31.

If you can run a profitable storage business, it seems that CAPS players will like you, and Western Digital certainly qualifies on that point.

One All-Star player points to an "undeserved low price here," saying that the company "will outperform by reversing to fair price." Another bullish CAPSer says it is an "awesome company" with a promising product-development pipeline. Nobody has made a negative comment since March, and there is just one thumbs-down grade among the last 165 ratings entered.

What management says:
WD upped its earnings and revenue guidance in September, and now expects $0.61 to $0.65 of net profit per share on $1.6 billion to $1.65 billion in sales. The brighter outlook was based on "improvements in demand, product mix and pricing."

What management does:
There's steady and ample sales growth going on, and the profit margins have an agreeable habit of stepping up a bit every now and then. That leads to generous earnings growth.

If you assume that Western Digital can keep up at least 20% earnings growth for the foreseeable future and add in a P/E ratio around 10 times trailing earnings, then you get a PEG number in the Dirt Cheap range. Yes, that's a technical term.

Margins	3/2006	6/2006	9/2006	12/2006	3/2007	6/2007
Gross	18.7%	19.1%	18.9%	18.2%	17.3%	16.5%
Operating	7.8%	8.5%	8.6%	8.3%	8.3%	7.6%
Net	7.5%	9.1%	9.3%	9.2%	9.1%	10.3%
FCF/Revenue	2.4%	2.3%	3.6%	3.6%	4.9%	5.4%

Growth (YOY)	3/2006	6/2006	9/2006	12/2006	3/2007	6/2007
Revenue	21.7%	19.3%	20.1%	23.0%	23.6%	26.0%
Earnings	68.0%	101.5%	82.7%	60.2%	50.3%	42.8%

All data courtesy of Capital IQ, a division of Standard & Poor's. Data reflects trailing-12-month performance for the quarters ended in the named months.

One Fool says:
It's hard to find fault with results like these, especially at such a low valuation. Running the numbers through a discounted cash flow calculator (available to Inside Value members -- take it for a free 30-day test drive) with a conservative 20% growth target shows that the stock may be 40% undervalued today. Simple P/E figures point in the same direction.

It's no wonder my fellow Fools like to highlight Western Digital in deep-discount roundups, or recommend that you give this stock to Mom on Mother's Day. I thought it looked cheap back in January, and the stock has nearly tripled the returns of the S&P 500 benchmark since then -- but it still has plenty of room to improve. Is this the report that will restore Western Digital to its rightful valuation? Shareholders certainly hope so; the rest of us want some more time to buy in.