Hard-Drive Makers Have Growth in Store

I expect the attach rates of external drives to computer purchases to soar in the next few years. Right now, the global market for external drives is about 40 million units in a 300-million-unit personal computer market. As the attach rate grows to 25-35%, that application could triple demand to 120 million units in the next few years! And this says nothing about addressing the billions of computers in the installed base. The acceleration in growth has very positive ramifications for industry pricing, profitability and shareholder returns.

As the insatiable demand for storing digital content continues, the hard-disk-drive industry is finally starting to act like a business run by grown up capitalists. Despite decent returns for Seagate and Western Digital, the entire industry has been plagued by subpar profitability. Even in a reasonably healthy environment like 2007, the pretax return on sales for the whole hard-drive industry is still only mid single digits. You can thank the knucklehead, socialist bozos running HitachiHIT for that. But even there, new management seems focused on pricing drives to avoid losing hundreds of millions of dollars annually. Hard-drive margins cyclically peaking? Not at 6% margins.

Significant consolidation of drive assemblers (the top three assemblers approach 80% market share) and component suppliers has generated a kindler and gentler hard-drive cycle, and investors just don't appreciate it yet. Take Western Digital, for example. The company keeps generating stunning growth and blowing away Street estimates. And yet, on their latest quarterly blowout, six analysts downgraded the stock at 7 times profits with 30% revenue growth.

These were the same analysts who missed WDC earnings by 100%! That's right, the same guys and gals who had started fiscal year 2008 with a $2 estimate in a $4 year now all think they figured out WDC enough to pre-emptively downgrade one of the best set of fundamentals and lowest valuations in the entire tech space. I must have missed the memo.