April 27, 2012, 10:56 A.M. ET
WDC Drops 12% on Downgrades; Will Prices Have to Fall?
By Tiernan Ray
blogs.barrons.com
Shares of Western Digital ( WDC) are down $5.12, or 12%, at $38.97, after the company last night beat fiscal Q3 revenue and profit per share estimates, and offered a better-than-expected Q4 view.
It appears that there were several concerns, including some weaker comments about demand this quarter, and the prospect of declining gross profit margin. But this morning, the main avenue of the bears is that prices seem like they will have to fall back to levels from before the flooding in Thailand last year that cut supply and drove up drive prices.
Shares of competitor Seagate ( STX) are also under pressure this morning, dropping $2.30, or 7.5%, to $28.76.
The stock got two downgrades today, from Merrill Lynch’s Scott Craig, and from Craig-Hallum Capital’s Christian Schwab, but there are also bulls who are coming to the stock’s defense.
Merrill’s Craig actually cut his rating to Neutral on both WDC and Seagate stock, writing that the report suggests softness ahead in the disk drive market.
The EPS outlook for $2.35 to $2.55 was below his $2.67 estimate, even though it topped Street consensus, he writes. With Western forecasting a total worldwide market for drives of 155 million to 160 million units this quarter, below what Craig was modeling, he thinks prices will have to come down to stimulate demand:
Commentary pointed to softer demand than expected going forward, at current/elevated ASPs levels, and some pricing concessions (certain HGST customers, pre-acquisition). It appears the HDD industry can’t have it both ways for much longer – pricing/margins at high levels, and expected strong demand, with assumed channel inventory refill […] Despite industry under-utilization at 155-160m units total available market (TAM) in C2Q12 vs. 180m+ capacity (pre-Thailand flood levels), and what we believed was pent up demand for inventory/channel fill, WD management believes near- term demand can be met at the 155-160m units. This is significantly below our/Street expectations that demand is closer 170m+ units and implies that if ASPs remains high, demand could remain subdued, especially in the distributor and in branded/retail channels. Distributor channel inventory is ~50% of pre-flood levels, and it may stay near those levels, for at least the near term.
But Needham & Co.’s Richard Kugele this morning reiterates a Strong Buy rating on Western Shares, while cutting his price target to $61 from $66, writing that the conference call was “complex,” but that “industry fundamentals remain robust.” He advises “building positions” in both WDC and Seagate shares.
There was “more than enough” in the commentary to “feed the bears,” he concedes, but he refutes each concern that demand is weak and pricing will recede:
The call went a bit awry…Negatives/Points of Confusion: 1) WD notes it
can basically meet customer demand now. Bears likely read? Supply back online, end of story. Our Take? WD still buying major TDK heads, and meeting soft June demand is different than any mix or upside requests. We are not at normalcy quite yet, in our view (and segment specific commentary corroborates that view); 2) WD comments about “pricing reflective of current market conditions”. Bears likely read balanced supply/demand=pre- flood pricing. Our Take? As STX noted, OEM pricing relatively flat seq., but WD was well above the street and is now meeting the mkt; 3) Margin guidance 30-31% for F4Q. Bears likely read: Smoking gun for price drops to pre-flood. Our take? We see upside to that level, and pre-flood levels were upper teens. 4) Hitachi Signed LTA for June below March. Bears likely read: HGST was aggressive, hence lower GM guide. Our Take: HGST was right to lock down volume as visibility is key, and ASPs must not be down that much to still have the ability to guide to 30-31%+ GM.
Kugele raised his 2012 estimate to $12.1 billion in revenue and $7.65 per share in profit from a prior $11.99 billion and $6.58 per share. For 2013, he cut his estimate, however, to $18.73 billion and $10.09 per share from a prior $21.81 billion and $11 per share, to account for “lower unit assumptions” but higher gross margin estimates.”
Barclays Capital‘s Ben Reitzes reiterates an Overweight rating on Western shares, raising his price target to $49 from $45, writing that the company is “still getting its arms around the new assets,” meaning Hitachi’s disk operations, and that the outlook is probably “conservative.”
He thinks, moreover, that Western may initiate a buyback plan and a dividend plan by the time of its September analyst day meeting. Reitzes raised his fiscal 2013 estimate to $9.80 per share in profit from a prior $8 per share. That assumes 41% revenue growth and a 29.5% gross margin. That is actually below the Street consensus for a 50.5% rise in revenue and for $8.62 per share in profit. |
