EMC’s Capital Return Plans Are Another Sign That Its Shares Are Undervalued

by Trefis Team
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EMC (NYSE:EMC) has increased its share buyback plan by $5 billion due to slowing growth concerns and initiated a quarterly dividend to return more cash to its shareholders. [1] The move comes as EMC’s stock continues to underperform the S&P index. Prior to this new capital return program, the stock had declined 5% this year while the S&P has risen by 15%.

EMC’s shareholders will now get a quarterly dividend of 10 cents a share on July 23 with July 1 as record date. This implies an annualized dividend yield of 1.5% at the current market price. At the same time, the shareholders will also benefit from the bigger share repurchase program that has been increased to $6 billion over the three years ending 2015. About $3.5 billion of common stock will be bought by the end of the second quarter next year.

While EMC currently has about $6.5 billion in cash and cash equivalents and short-term investments, it will alter its capital structure by adding more debt to fund its buyback program and dividend. With a manageable debt load of around $1.7 billion and yearly free cash flow of $5 billion, we expect EMC to remain comfortable in servicing any increase in debt while pursuing other growth opportunities.

The aforementioned steps announced by the management reiterate our view that the stock remains highly undervalued. We have a $42 price estimate for EMC, which is a substantial premium to the current market price.

See our full analysis on EMC

External Storage Demand To Continue To See Rapid Growth

We expect the storage sector, particularly external storage, to continue to grow at a rapid pace. With rising Internet penetration, users are able to exchange larger amounts of data as well as indulge in heavier data-driven Internet activities like watching movies, downloading songs and uploading photos. This is causing phenomenal growth in the amount of data generated and stored. Further, information security is now seen as a risk management problem that must be solved within the context of information and infrastructure management. With growing concerns around data security and data protection, this will continue to boost demand for external storage capacity. [2]

EMC is the largest player in the external storage market and has continuously been gaining market share. Therefore, it stands to benefit the most from the aforementioned trend as it is the only company which has the breadth of products and services to target all types of customers from large enterprises to small and medium businesses. Further, in the second half of 2012, EMC and Lenovo Group entered into a strategic partnership to resell storage equipment and servers made by EMC. China is the world’s second largest economy and EMC will gain a foothold in this massive market through this partnership. The partnership will also open up markets outside of Asia for Lenovo and will help it expand into products beyond personal computers in Asia. The companies have also formed a joint venture to sell storage equipment to small and mid-sized businesses. [3]

Preserving data is a critical compliance and a competitive requirement for large enterprises, and hence we believe that large enterprises are less likely to move around vendors given that they have ongoing maintenance and service contracts for both hardware and software for their storage devices from EMC, which brings recurring revenue to the company. However, what can weigh on the growth is pricing pressure. As competitive pressures have intensified, EMC has been cutting the prices of its products.

Cloud Focus To Boost Revenues In The Long Term

Through its Velocity program, the company has signed up major providers such as Verizon-Terremark, Singapore Telecommunications and AT&T to provide private cloud networks as they gain traction. EMC is also focusing on hybrid clouds where companies can have their own in-house private clouds to retain sensitive data and information and move the rest to a public cloud. Having access to a public cloud helps scale applications easily, and EMC claims that its hybrid cloud strategy is different from Amazon (NASDAQ:AMZN) and Oracle (NASDAQ:ORCL).

Further, Pivotal, a joint venture of EMC and VMware (a subsidiary of EMC), started its operations on April 1, 2013. Through Pivotal, EMC and VMware are aiming to focus on Big Data and Cloud application platforms. IDC cloud research shows that revenue from IT cloud services is expected to reach $72.9 billion in 2015 at a compound annual growth rate (CAGR) of 27.6%. [4] This is over four times the growth expected for the worldwide IT market and presents a huge growth opportunity. The formation of Pivotal will enable EMC and VMware to focus on their core competencies while pursuing the growing cloud services market. In its first year of operation, Pivotal is expected to garner almost $300 million in revenues in 2013, and up to $1 billion by 2017. [5] Pivotal also recently received $105 million investment by GE for a 10% stake, which implies the venture is already being valued at over $1 billion. [6]

Understand How a Company’s Products Impact its Stock Price at Trefis

  1. EMC Increases Share Buyback Program to $6 Billion, Institutes Quarterly Dividend, EMC, May 30 2013 []
  2. Worldwide External Disk Storage Systems Factory Revenue Increased 2.3% During the Fourth Quarter of 2012 and 4.7% for the Full Year, IDC, March 08 2013 []
  3. Lenovo Forges Ties With EMC, www.businessweek.com, Aug 1, 2012 []
  4. IDC Cloud Research, IDC []
  5. EMC, VMware To Launch Pivotal Initiative As Separate $300M Firm, CRN, March 13 2013 []
  6. GE invests $105M in Pivotal to build the Industrial Internet, Venture Beat, April 24 2013 []
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