Up 2x In The Past Year, Is Western Digital Stock Now Too Expensive?

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Western Digital

Western Digital stock (NASDAQ: WDC) is up almost 10% since the beginning of 2020, and at the current price of around $69 per share, we believe that WDC stock has around 15% potential downside.

Why is that? Our belief stems from the fact that WDC stock is up more than 2.3x from the low seen in March 2020. Further, after posting mixed Q2 ’21 numbers, it’s clear that WDC did not benefit from the pandemic, and that memory device demand is still not back up to pre-Covid levels. Our dashboard What Factors Drove 85% Change In Western Digital Stock Between 2018 And Now? provides the key numbers behind our thinking, and we explain more below.

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WDC stock’s rise since late 2018 came despite a 19% drop in revenues from $20.6 billion in FY 2018 to $16.7 billion in FY 2020 (WDC’s fiscal year ends in June). A roughly unchanged outstanding share count over this period, meant that RPS (revenue-per-share) came in at $56.16 in 2020 vs $69.52 in 2018, a 19% decrease.

Western Digital’s P/S (price-to-sales) ratio rose from 0.53x in 2018 to 1.12x in 2019, as the semiconductor supply glut cleared out, implying a rise in demand and selling prices. The P/S multiple has further risen to 1.22x, but given Western Digital’s mixed Q2 2021 results, there is possible downside risk for WDC’s multiple.

So what’s the likely trigger and timing to this downside?

The global spread of Coronavirus and the resulting lockdowns have led to a surge in the use of cloud storage and streaming services, driving down demand for external memory devices like hard drives and flash memory sticks. This is evident from Western Digital’s Q2 2021 results, where revenue came in at $3.94 billion, down from $4.23 billion in Q2 2020. However, the company was able to control COGS and operating expenses, driving operating margins to 4%, up more than 3x from 1.2% in Q2 ’20. This helped drive EPS to $0.20 from -$0.47 over this period.

Despite the economy opening up, it’s likely that work-from-home will be the new trend, and  external memory demand, including flash and HDD (hard disk drives) could struggle to get back to pre-Covid levels, at least in the medium term, as people continue relying on cloud storage for their data sharing and storage needs.

This could see the company’s weak revenues eventually weigh down profitability. We believe the stock will see its P/S multiple decline from the current level of 1.22x to around 1x, which combined with a reduction in revenues and margins could result in the stock price shrinking to as low as $55, a downside of 20% from the current price of $69.

While Western Digital stock may not seem attractive, 2020 has created many more pricing discontinuities which can offer attractive trading opportunities. For example, you’ll be surprised how counter-intuitive the stock valuation is for Apple vs Microsoft. Another example is Ansys vs Adobe.


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