Western Digital stock (NASDAQ: WDC) is up more than 30% since the beginning of 2021, and at the current price near $69 per share, we believe that Western Digital stock has around 15% potential downside.
Why is that? Our belief stems from the fact that Western Digital stock is up more than 2x from the low seen in March 2020. Further, after posting mixed Q3 ’21 numbers, it’s clear that demand for Western Digital’s products has not recovered to levels before the pandemic. Our dashboard What Factors Drove 89% 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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Western Digital stock’s rise since late 2018 came despite a 19% drop in revenues, from $20.6 billion in 2018 to $16.7 billion in 2020 (Western Digital’s fiscal year ends in June). This, combined with a roughly unchanged outstanding share count, led to RPS (revenue-per-share) dropping 19%, from $69.44 to $56.23 over this period.
Western Digital’s P/S (price-to-sales) ratio rose from 0.5x in 2018 to 0.9x by 2020 end, but has risen to 1.2x currently, riding the rally in technology stocks. However, given Western Digital’s mixed Q3 2021 results, there is possible downside risk for Western Digital’s multiple.
So what’s the likely trigger and timing to this downside?
The global spread of coronavirus and the resulting lockdowns in early 2020 saw a drop in demand for semiconductors and external memory devices worldwide, and Western Digital was also impacted by this. However, demand has picked up since, but this has not really benefited Western Digital’s business. This is evident from Western Digital’s results for Q3 2021, where revenue came in roughly unchanged at $4.14 billion vs $4.18 billion for the same period last year. But, lower COGS saw gross margins rise to 26.4% vs 24.1% in Q3 2020. With other operating expenses roughly unchanged, operating income rose to $317 million from $153 million. A significantly lower effective tax rate (20.9% in Q3 2021 vs 63% in Q3 2020) saw EPS rise significantly to $0.64, up from $0.06.
Despite efforts toward the worldwide containment of the virus, with work-from-home becoming the new norm, it is likely that demand for external memory devices will stay low in the near to medium term, as cloud storage is a much more viable option. This could see demand for the company’s products remain stagnant in the near to medium term, and this will eventually weigh on profitability. We believe the stock will see its P/S multiple decline from the current level of 1.2x to around 1.1x, which combined with a reduction in revenues and margins could result in the stock price shrinking to as low as $60, a downside of 15% from the current price of $69.
While Western Digital stock does not appear attractive, it is helpful to see how its peers stack up. Check out Western Digital Stock Comparison With Peers to see how WDC compares against peers on metrics that matter. You can find more such useful comparisons on Peer Comparisons.