Why We Revised Our Price Estimate For VMware To $74

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We recently revised our price estimate for VMware (NYSE:VMW) from $86 to $74. The primary reasons for the price estimate revision were lower revenue expectations, particularly for software licenses, which will negatively impact the company’s margins and earnings going forward. In its fourth quarter and full year earnings call in January, VMware’s management provided weak revenue guidance for 2016. Moreover, the announcement of the Dell-EMC deal resulted in VMware’s stock plummeting by over 25% at the time. With Dell acquiring EMC, it has effectively taken the 97% voting rights of VMware but floated over 50% of VMware’s stock as tracking stock with no voting rights. VMware’s shareholders have been unhappy with the conditions of the deal since then. [1]

We have made revisions to our forecasts in line with the company’s guidance. Correspondingly, our price estimate for VMware is still significantly higher than the current market price. Below you can take a look at some of the changes we have incorporated in our model. VMware’s management expects revenues to grow at 2-4% through the year – which is significantly lower than the revenue growth over the last few years. [2]

VMW_Price1In response to lower expected revenue and gross margins, VMware’s research and development (R&D) expenses are unlikely to fall significantly due to the company’s focus on new technology such as network virtualization (or software-defined networking), hybrid cloud deployment and end-user computing. On the other hand, VMware’s management intends to cut the company’s selling, general and administrative (SG&A) expenses by reducing the workforce by 800 through the first half of 2016. As a result, VMware’s SG&A expenses are likely to remain flat as a percentage of gross profits relative to our previous estimate of about 39%, while we raised our forecast for R&D expenses as a percentage of gross profits.

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Notes:

1) The purpose of these analyses is to help readers focus on a few important things. We hope such lean communication sparks thinking, and encourages readers to comment and ask questions on the comment section, or email content@trefis.com
2) Figures mentioned are approximate values to help our readers remember the key concepts more intuitively. For precise figures, please refer to  Our Full Analysis For VMware.

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Notes:
  1. Why Dell’s EMC Bid Leaves VMware Looking Like Devalued Currency, Wall Street Journal, October 2015 []
  2. VMware Q4 2015 Earnings Call Transcript, Seeking Alpha, January 2016 []