Storage giant EMC Corporation (NYSE:EMC) announced the acquisition of cloud computing management software and infrastructure-as-a-service (IaaS) provider Virtustream for $1.2 billion in an all-cash deal this week. The acquisition could help the company expand its presence in the growing cloud computing domain and improve its range of offerings. The deal is not expected to contribute meaningfully to EMC’s financials this year. After the deal is closed sometime later this year, the company expects Virtustream’s revenues and earnings to start being accretive to EMC’s results starting 2016. 
To boost its presence in the cloud computing market space, EMC previously acquired three companies in late 2014, including enterprise-grade hybrid cloud solutions platform Cloudscaling, cloud technology provider Maginatics, and subscription-based cloud backup and recovery platform Spanning.  EMC has been very successful with its acquisitions over the past few years. Starting from the VMware (NYSE:VMW) acquisition about a decade ago, the company has since taken over companies such as RSA Security, Data Domain, Isilon, Aveska, Pivotal Labs, XtremIO and DSSD. All these acquisitions are currently fast-growing and profit-generating businesses within EMC.
We have a $29 price estimate for EMC, which is about 10% higher than the current market price.EMC’s stock price has fallen by over 11% since the beginning of the year.
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Virtustream And Acquisitions By Competitors
Founded in 2009, Virtustream offers a number of products and solutions in the cloud management market space, spanning a wide array of capabilities that range from delivering mission-critical application running solutions, enterprise-grade software solutions for risk management, to cloud management software for private, public and hybrid clouds. Virtustream has raised over $130 million in nine rounds of funding, with Intel Capital contributing backing to the company through the investment period.  German software giant SAP (NYSE:SAP) was also one of Virtustream’s early investors, pumping in $40 million back in 2013 to help it scale up and build its enterprise cloud offerings.  The company currently has a number of large scale clients among government (Federal and local) agencies and top-tier private companies, including The Coca-Cola Company, Domino Sugar, Heinz, Hess Corporation, Kawasaki and Lexmark.
EMC’s move to buy Virtustream has been preceded by similar acquisitions over the last few years by competing IT behemoths including Hewlett-Packard (NYSE:HPQ), Cisco (NASDAQ:CSCO) and IBM (NYSE:IBM). HP bought open-source cloud technology provider Eucalyptus for an estimated $100 million in late 2014.  IBM acquired cloud infrastructure provider Softlayer for about $2 billion in mid 2013, which at the time was the world’s largest privately held IaaS company.  More recently, Cisco acquired private cloud provider Metacloud in an attempt to bolster its global Intercloud platform and architecture.
How It All Fits In At The EMC ‘Federation‘
After EMC acquired the three companies in October 2014, it launched its Federation Enterprise Hybrid Cloud solution to help customers combine on-premise data with the public cloud. The hybrid cloud model offers “on-ramps” that migrate data from the public cloud to on-premise deployments for existing customers. The addition of Virtustream’s cloud management software and platform, along with its ability to manage through high workloads, should make this transition even more seamless. As part of EMC’s operational strategy, the acquired string of companies within EMC can operate independently within the larger entity (EMC) without having to compromise on innovation. And it can subsequently be offered as integrated solutions to customers.
The challenge that lies with EMC management at this point is how to seamlessly integrate offerings from all its prior acquisitions within the ‘federation’. The company has maintained its intention to continue with the federation model despite pressure from activist investors to completely spin off growing businesses.  EMC has showed capability in managing its businesses, as evidenced by its decision to keep VMware as a separate entity and spinning out Pivotal to encourage growth and innovation. On the other hand, most other companies that EMC has acquired now either stand as different divisions within EMC (content management or information security) or form the part of EMC’s core information storage segment.
The company intends to make it easier for its customers to transition to a cloud environment with minimum hassle. This requires the company to offera comprehensive range of capabilities in its hybrid cloud portfolio, soas to be able to manage different applications and varying workloads. Moreover, EMC’s hybrid cloud platform which works with VMware’s hybrid cloud service (rebranded as VMware vCloud Air last year) can be bundled with Virtustream’s software. VMware’s management reflected a similar idea in a released statement. According to the management, Virtustream’s IaaS and private cloud software xStream can be bundled with VMware’s vCloud Air public cloud infrastructure and private cloud software, respectively. 
Emerging Storage Could Thrive On These Latest Acquisitions
Over the last few quarters, EMC has witnessed strong growth in emerging storage product sales. The fast-growing emerging storage solutions include network attached storage (Isilon), virtualization and private cloud (VPLEX), cloud storage (Atmos), converged storage infrastructure (ScaleIO) and the all-flash storage array (XtremIO). Net revenues generated by the Emerging Storage sub-segment stood at $2.3 billion in 2014, up by 52% on a year-over-year basis. With the recent acquisitions enhancing EMC’s product and services capabilities, the company could sustain growth in the coming years. The company expects the growth in emerging storage to continue through 2015 and resulting revenues to rise by over 30% year over year to $3 billion for the full year.  This would translate to about 12-13% of the company’s expected net revenues of about $25 billion. Comparatively, emerging storage contributed to only about 6-7% of net revenues in 2013. Going forward, we forecast EMC’s share to fall by about 20 basis points to around 30.8% in 2015 and, subsequently, to stabilize at that level through the end of our forecast period.
In addition to contributing to product sales, the acquisitions could also help drive EMC’s services revenues. EMC could build on its existing customer base with Virtustream’s present clients and sign on newer customers. EMC’s storage services revenues have grown at a CAGR of almost 5% from 2012 ($2.9 billion) through 2014 ($3.2 billion). Moreover, VMware’s services revenues (of which roughly 30% were generated via enterprise license agreements in 2014), have grown at a CAGR of almost 19% from 2012 through 2014 (at $3.4 billion). Virtustream’s xStream software, integrated with VMware’s flagship vSphere hypervisor, could potentially help the company sign enterprise-level service level agreements (SLA) across platforms ranging from application performance and infrastructure management.  With services-based revenues driving much of the top line growth for EMC, recent acquisitions step in perfectly to help boost numbers.Notes:
- EMC To Acquire Virtustream, EMC Press Release, May 2015 [↩] [↩]
- EMC Scores a Cloud Hat-trick; Acquires Cloudscaling, Maginatics and Spanning, EMC Press Release, October 2014 [↩]
- This Cloud Thing Is Real – EMC Drops $1.2B For Virtustream, Forbes, May 2015 [↩]
- Virtustream lands $40M from SAP to build out its enterprise cloud, Giga OM, September 2013 [↩]
- HP buys Eucalyptus as cloud consolidation commences for real, Giga OM, September 2014 [↩]
- IBM and SoftLayer: What a difference a year makes, IT Pro, October 2014 [↩]
- Hedge fund Elliott pushes EMC to split off VMware: WSJ, Reuters, July 2014 [↩]
- EMC Earnings Call Transcript Q4 2014, Seeking Alpha, January 2015 [↩]
- EMC Corp. Eyes Hybrid Cloud Market, Acquires Virtustream, Nasdaq, May 2015 [↩]