And it looks like people actually will be following this Q's results of our sector...
Inrange preserves SAN sanctity
By Stephen Lucey
Redherring.com, January 12, 2001
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Quote & Chart for: INRG MCDT EMC
The verdict is not in yet, but if Inrange Technologies (Nasdaq: INRG)'s fourth-quarter results are any indication of what lies ahead for providers of storage solutions, investors may soon be rushing to the sector as a shelter from a parade of disappointing high-technology earnings in the fourth quarter.
After the latest series of disappointments -- Yahoo (Nasdaq: YHOO) and Nokia (NYSE: NOK) guided analyst's 2001 top-line estimates downward -- investors appeared prepared to wait on the sidelines before making any bold moves. However, storage area network (SAN) provider Inrange halted that negative momentum in announcing that it will exceed estimates for its fourth quarter. Perhaps more encouraging is the fact that analysts are pointing to those results as evidence of strengthening industrywide demand for storage solutions.
As a result, Inrange saw its stock climb $5.25, or 39 percent, to close at $19.75. Other industry players, namely EMC (NYSE: EMC) and Brocade Communications Systems (Nasdaq: BRCD), saw similar bullish reaction from investors as they watched their stocks climb 6.4 percent and 6.5 percent to $89.81 and $73.13, respectively.
"[The Inrange results are] the first data point for the group," says William Lewis, an analyst for J.P. Morgan Chase, who expects similar upside from EMC and Brocade Communications when they report their fourth-quarter results. "The storage companies continue to be a leading sector even with a lot of uncertainty over IT budgets in 2001."
IN NEED OF A BOOST
While Inrange has been caught in a downward spiral since its September 22 IPO, the positive earnings news was just the catalyst that investors needed to get back into the stock. After closing its first day at $46.25, a 189 percent increase above its $16 offer price, Inrange's stock slipped to a low of $11.63 on Monday before its recent run.
According to Philip Rueppel, an analyst with Deutsche Banc Alex. Brown, a similar story could be in the works for Inrange's competitor McData (Nasdaq: MCDT), which went public in August to a 206 percent opening-day gain. In a preview of the company's fourth-quarter earnings, Mr. Rueppel predicted that McData could potentially exceed consensus estimates calling for EPS of 11 cents on revenue of $78 million. He also would not be surprised if McData raised its earnings outlook for 2001 by a moderate amount as demand for SAN switches remains "red hot" despite tightening IT budgets.
Despite the favorable demand outlook for the industry leaders such as Brocade Communications, which controls 59 percent of the system business and 39 percent of the overall Fibre Channel business, The lowest numbers I have ever seen, hope they go lower and ower these stocks are not cheap. Brocade trades at 126 times 2001 earnings, while EMC and McData trade at 103 times and 125 times, respectively.
"Valuations are rich, but deservedly so," says Mr. Lewis. "Companies like Brocade and Emulex did a fantastic job at not only sustaining growth but accelerating it."
ANY NEWCOMERS?
The key to sustaining these lofty valuations will be to continue the innovation that has characterized the industry. With such a large portion of IT spending ending up in the pockets of the storage companies, SANs are one of the fastest-growing segments of the networking market. And while companies providing Fibre Channel technology continue to dominate, analysts expect new solutions to emerge in 2001.
According to Barry Eggers, a general partner at Lightspeed Venture Partners, one of the early backers of Brocade, storage companies need to offer scalable solutions that are complex enough to grow with the market. But at the same time, says Mr. Eggers, control of the data at the service level will be critical.
As such, at the transport layer, Lightspeed has backed companies like the privately held Nishan Systems, which is offering storage over Internet protocol (IP) solutions. By offering a solution that is already compatible with the existing Gigabit Ethernet routers and switches, their storage solution runs on a network already familiar to IT professionals.
As for other emerging companies, storage solutions may become best served on an outsourced basis -- very much like the application service provider (ASP) model. While hosting companies and ASPs flooded the market in 2000 because they enabled businesses to farm out non-mission-critical functions, the idea of hosting storage is just starting to draw interest.
Mr. Eggers points to companies like the privately held Storability, which offers onsite and offsite management of storage needs for companies on a pay-per-service basis. While Mr. Lewis agrees these outsourcing models are interesting, he suggests it's unclear whether these new players will be able to offer a suite of services that folds together applications, hosting, and storage needs into one package.
But whatever the evolution of the new storage solutions that emerge, it's clear that the leading companies in the sector will be following the progress of the startups closely in order to stay ahead of the curve. But according to Seth Neiman, a general partner at Crosspoint Venture Partners, the large firms will continue to dominate the landscape unless there is a sudden need for an immediate technology innovation in the storage space.
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