At Network Appliance, Big Dreams Collide With a Rich Price
By Thomas Lepri
Staff Reporter
6/15/00 4:59 PM ET
This story was originally published at 3:33 PM ET
Wednesday's stampede out of Network Appliance (NTAP:Nasdaq - news - boards) illustrated that to many investors, you don't always need to own a must-own stock.
The stock sank 12% after CEO Dan Warmenhoven said that the company's second-quarter book-to-bill ratio could be below 1, indicating that orders are softening. A number of brokerages have since come out in support of the stock, saying that the market's harsh reaction failed to recognize that the decline in bookings is due to normal seasonal factors. The stock recovered somewhat Thursday, adding 3 9/16, or 4.7%, to 79 3/16.
Even with this week's losses, Network Appliance remains priced precariously close to perfection, with a forward price-to-earnings ratio well above 200. And investors are left with the difficult task of weighing that risk against the vast opportunities promised by the company, whose network-attached storage products are considered by many to be a disruptive technology capable of threatening industry giant EMC (EMC:NYSE - news - boards).
Disrupt This
The term "disruptive technology" was coined by Harvard Business School professor and Merrill Lynch Technology Advisory Board member Clayton Christensen. It refers to a technology that, though sometimes crude, is cheap enough and simple enough that it can gain critical market share. Disruptive technologies, the theory goes, attack dominant products from below.
To many observers -- most notably Merrill's own Steve Milunovich, an analyst who's been pounding the table for Network Appliance for some time now -- Christensen's model is an apt description of network-attached storage, or NAS. Unlike the server-attached storage, or SAS, model, NAS detaches data-storage devices from the servers that run applications for the network's work stations. By putting those storage devices directly on the network, NAS accomplishes two things: It alleviates bottlenecks and allows technology managers to add new storage capacity easily by attaching additional appliances to the existing network.
It's complicated stuff for those who aren't information-technology pros. But the pros themselves are impressed. A survey conducted by Merrill shows 44% of corporate buyers believe that both its price and performance make NAS a real threat to EMC. (Some 40% said they think Network Appliance and EMC will manage to coexist.)
Jack and the Beanstalk
That sentiment may explain why International Data Corp. estimates that total NAS market revenue will grow from around $850 million in 1999 to more than $6.5 billion in 2003. That makes for an incredible annualized growth rate of 66%, and Network Appliance's boosters believe its leading share of the NAS market -- now at 60%, according to the company -- will give it the bulk of that growth. Network Appliance has already been able to put together 18 straight quarters of greater than 70% revenue growth.
"They have first-mover advantage," says Peter Labe, an analyst at Buckingham Research, which rates Network Appliance a buy and has no underwriting relationship with the company. "They saw a market for network-attached storage that nobody else saw. EMC had a product but weren't pushing it. It was an opportunity to gain a leading position, and they took it."
The market hasn't missed the implications. Sensing its potential as a must-own stock, mutual funds have flocked to Network Appliance, sending it up more than 650% in the last year. The most recent data show institutions holding 57% of Network Appliance's shares outstanding, and 67% of its float. By contrast, about 33% of EMC's float is held by institutions.
Puttin' on the Ritz
But some fund managers have had their enthusiasm tempered by the stock's extreme run-up. "Relative to its industry peers, it's a little expensive," says Rick Weed, portfolio manager at State Street Global Advisors. Weed chooses stocks for the two growth funds he runs at State Street according to strict quantitative models, and based on those models, Weed sold Network Appliance on valuation issues. "We feel its internally generated cash flow isn't as good as Sun (SUNW:Nasdaq - news - boards) or EMC," he explains. So Weed has opted for those stocks instead, holding Sun in his aggressive growth fund and both Sun and EMC in his regular growth fund.
Their most recent federal filings show EMC and Sun each holding close to $1.4 billion in cash on their balance sheets, compared with $231 million for Network Appliance. Those considerable kitties give Network Appliance's larger competitors the ability to buy new technologies and sink loads of money into research and development.
Sun's foray into NAS has just begun. It unveiled its new network-storage product, the StorEdge T3, Wednesday. EMC, meanwhile, has achieved impressive momentum in NAS since it began focusing on the market last year. IDC estimates the company's sales of NAS systems grew to $150 million last year from $34 million in 1998, a jump of 440%. Sun also holds a leading position in the budding storage-area networks, or SANs, market, which Network Appliance entered this week with its acquisition of Waltham, Mass.-based Orca Systems.
But Network Appliance is convinced its single-minded devotion to NAS will give it the edge over less-focused rivals. And Warmenhoven has confidence in his aggressive sales staff, whose low base salaries force them to hunt out customers not on the radar of their main storage competitor. "We compete with EMC a lot less than you might think, on less than one-third of our sales," Warmenhoven says. "The rest of the time we're going up against Sun, Compaq (CPQ:NYSE - news - boards) and H-P (HWP:NYSE - news - boards). And that's easy pickings."
It certainly has been so far.
thestreet.com
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So did anyone confirmed this book to bill issue? This doesn't sound right.
Jack |
