Western Digital To Acquire sTec To Expand Its SSD Offerings

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In a bid to boost its solid state drive (SSD) business, Western Digital (NASDAQ:WDC), the leading manufacturers of hard disk drives, has announced acquisition of sTec Inc., a SSD maker. The company will shell out close to $340 million in cash for the acquisition, giving sTec an enterprise value of about $200 million. [1] The move comes as Western Digital shifts its focus to tap the rapidly growing SSD market. Western Digital acquired Hitachi GST (HGST) in 2012, which brought a range of enterprise SSD product lines and the latest acquisition should expand Western Digital’s footprint in the enterprise SSDs market. Below we discuss how the deal could benefit Western Digital going forward.

We have a $64 price estimate for Western Digital, a slight premium to the current market price. Western Digital’s stock has risen over 30% this year.

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Need For Faster Drives Increasing With Cloud Computing And Remote Storage

With rising Internet penetration and smartphone sales, users are able to exchange larger amounts of data as well as indulge in heavier data-driven Internet activities like watching online movies, downloading songs and uploading photos. However, this comes with the growing use of remote storage from enterprises as well as retail customers. Various remote storage services like iCloud, Dropbox, Skydrive and Google Drive provide anywhere between 2 GB to 7 GB of free storage and it costs as little as $10 per year for a 20 GB drive. Low pricing and features such as loss protection and syncing with multiple devices are making these services very popular with users. According to an iHS iSuppli report, the number of subscriptions to cloud storage services was nearly 500 million in 2012 and will reach 1.3 billion subscriptions by 2017. [2] Further, more businesses are deploying cloud computing environments in an effort to pool resources and cut costs.

As more user data moves to cloud, servers will need to support higher input/output operations per second (IOPS) and thus use efficient storage from faster drives to do that. Further, as enterprises come to terms with their Big Data resources and adopt solutions to harness insights from them in real time, they will require storage solutions that are fast enough to handle such rapid real time operations.

Decline In Prices To Increase SSD Adoption

In the enterprise storage market, one of the key factors holding back the wider adoption of SSDs is their high cost relative to regular hard disk drives (HDD). On average, SSDs are at least twice as expensive as regular HDDs, and this cost differential is still causing price conscious customers and enterprises to prefer HDDs to SSDs. However, SSD memory production costs are expected to go down going forward, which should lead to higher adoption of SSDs.

One of the key raw materials for a SSD is NAND flash memory. Reacting to the rapid rise in smartphone and tablet sales coupled with the anticipated shift towards ultrabooks and SSDs, many NAND flash manufactures ramped up their production capacities. However, the demand for ultrabooks and SSDs has failed to meet initial expectations, which has led to a supply glut in the NAND memory market. The excess supply coupled with the current macroeconomic headwinds have further driven down NAND prices that have declined on account of intense competition among chipmakers. Further, as technology improvements lower costs, we expect NAND ASPs to continue to decline. We expect lower costs to be passed on to the consumer and this should result in a decline in the ASP per gigabyte for SSDs. This eventually will minimize cost savings that customers generate by preferring HDDs over SSDs, therefore, driving demand for SSD unit sales.

How sTec Can Help Western Digital?

HGST, now a part of Western Digital, has a range of enterprise SAS SSD product lines even as it is working on the high-end PCI Express (PCIe) SSD product line. PCIe SSDs are much faster than SAS SSDs as SAS connect to the host computer through host adapters, which in turn connect to the PCIe interface. With increasing demand for speedier access, use of PCIe SSDs in the servers is growing at a high rate. The sTec acquisition fits well with HGST’s enterprise SSD product portfolio as it will give the latter ready access to its PCIe SSDs and an entry into the server flash market. Further, sTec has vast intellectual assets with over 100 SSD-related patents. HGST currently has a joint-operation with Intel for SSD controllers and the acquisition will make HGST more independent.

sTec relies heavily on OEMs and has not been able to get its revenues to grow due to growing competition. Its revenues declined to just below $170 million in 2012, compared with over $300 million in 2011. [3] However, Western Digital can leverage its world class retail distribution and strong relationships with OEMs to expand revenues. The acquisition price seems fair as the deal values sTec at ~1.5 times of its expected 2013 revenues, which is below than the historical transaction in this space.

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Notes:
  1. Western Digital Buying Stec for About $340 Million, Bloomberg, June 25 2013 []
  2. Subscriptions to Cloud Storage Services to Reach Half-Billion Level This Year, iSuppli, Sep 06 2012 []
  3. sTec 10-k, SEC Edgar []
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