'Virtual Value' Isn't Good Enough for This Stock

In other words, management is calling for growth of 13%, or 7% lower than what would have pleased investors. What's more, analysts absolutely hated that VMware guided license revenue for growth in only single digits versus growth estimates of 14%. Granted, these adjustments weren't entirely drastic. Then again, the premiums investors have been paying were not for average performance either.

It also didn't escape analysts that license billings posted only 7% growth, the second consecutive quarter of single-digit movement. This means that demand is beginning to slow. Although there had been concerns about the overall health of the virtualization industry, it is clear these worries are valid.

VMware must convince investors it can restore its growth momentum. In the meantime, management has begun to focus on extensive cost-saving efforts, which include the elimination of 900 jobs. It's unfortunate that it has come to this. But despite strong profit margins, growth seems to be what investors want. Will this be enough?

VMware understands the challenge it is up against. The company realizes it has seen a decline in license revenue over the past several quarters. By and large, this has contributed to the central question of whether the company can continue to grow into its valuations. As evident by the 20% decline in the stock, investors are no longer willing to risk it.

The good news, though, is VMware is still the market leader in virtualization. This should afford the company some time to turn things around.

But the gap is beginning to narrow. Aside from Red Hat and Citrix, there's also Microsoft (MSFT), which has its own ambitions in this arena with SMS -- growing that business 5% to $5.19 billion. Although Microsoft is not a threat today, it should not be taken lightly.

Bottom Line

VMware has to prove that this bump in the road is temporary and not a sign of poor fundamentals. Although it has the support of EMC (EMC), which owns 80% of the company, EMC has been considered a drain on VMware's growth.

So from that standpoint, there may be some other challenges ahead. In the meantime, growth has to come back to the 20%+ level before this stock is going to work again.

At the time of publication the author had no position in any of the stocks mentioned.

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This article was written by an independent contributor, separate from TheStreet's regular news coverage.

Richard Saintvilus is a private investor with an information technology and engineering background and has been investing and trading for over 15 years. He employs conservative strategies in assessing equities and appraising value while minimizing downside risk. His decisions are based in part on management, growth prospects, return on equity and price-to-earnings as well as macroeconomic factors. He is an investor who seeks opportunities whether on the long or short side and believes in changing positions as information changes.

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