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Technology Stocks : EMC How high can it go? -- Ignore unavailable to you. Want to Upgrade?

To: TigerPaw who wrote (9030)	1/28/2000 11:25:00 PM
From: puborectalis	Read Replies (1) \| Respond to of 17183

by Pat Dorsey Senior Stocks Analyst, Morningstar.com Special to CNBC.com Sometimes headlines don't tell the whole story. On Wednesday, data-storage giant EMC Corp. {EMC} reported fourth-quarter earnings of 34 cents, 3 cents above Wall Street's estimates, but the stock sold off 8 percent. What sent the stock down after an excellent quarterly earnings report? EMC 52-week stock performance Strange as it may sound, look to America Online Inc.'s {AOL} purchase of Time Warner Inc. {TWX} for the answer. EMC acquired longtime laggard Data General in August. In both this case and in the AOL-Time Warner deal, a highflying market darling purchased a slower-growing firm with great assets but relatively unspectacular financial performance. Investors Ignore Higher Earnings Although transactions such as these can build shareholder value in a big way over the long haul -- assuming no major merger troubles crop up -- the market generally views them negatively in the short term because they slow down the highflier's growth rate. Even if the market is efficient in the long run, it is generally pretty myopic in the short run. For example, when EMC's purchase of Data General was announced in early August, the stock got a 10 percent haircut in two nasty trading days. (The stock has almost doubled since then, so the traders who leapt out at the first sign of trouble are probably regretting it.) This week's mini-selloff in EMC had a similar cause. Management announced in its quarterly conference call that it expects the company's top-line growth to "exceed 25 percent." EMC Investor Relations Now, improving a $6.7 billion top line by 25 percent isn't chopped liver by any means, but it is a good deal slower than the 35 percent rate that EMC shareholders have become accustomed to. Management also warned that the company's gross margins, or the percentage of revenue left over after subtracting the cost of goods sold, will stay flat in 2000, which means it will be tougher to increase earnings much faster than revenue. For the past couple of years, EMC's bottom line has grown significantly faster than its top line. Should EMC shareholders be worried? Nah. (Full disclosure: I'm one, and I'm not freaking out.) For one thing, Data General's storage systems are excellent products that are aimed at the middle of the data-storage market, an area that EMC hasn't yet attacked. Adding midrange systems to EMC's storage line expands the size of EMC's potential market by about 40 percent. Given the company's success at dominating the high end of the storage market, having a bigger sandbox to play in is a good thing for EMC's crack sales force. EMC Even more important is that EMC's integration of Data General seems to be going very smoothly. The necessary layoffs and consolidations have happened, EMC took a one-time hit of 15 cents a share in the December quarter, and that should be that. Problems could still crop up, of course, but the big hump has been passed with flying colors. Finally, it's worth recalling a comment EMC chief executive officer Mike Ruettgers made during the conference call. He said he thinks the company's plans to hit $12 billion in revenue by 2001 are on track. Doing the math, this implies a top-line growth rate of more than 40 percent in 2001, assuming 2000 sales growth hits the projected 25 percent target. Although 40 percent growth is an ambitious goal for a company as large as EMC, Ruettgers has a strong track record of delivering on his promises, so shareholders who bail out now are likely to miss some great times ahead. EMC's valuation remains a concern, of course, but with few competitive threats on the horizon and clear leadership in a fast-growing market, it's fair to say that if any company is worth 80 times forward earnings, it is probably EMC.