Gut Check: Is There Room for Growth in Store for EMC?

Wall Street is littered with tech stocks that notched triple-digits gains in both '98 and '99, only to end up as roadkill in '00. Among the few that managed to keep on truckin' is EMC(EMC).

The EMC File

Business: Enterprise storage systems, networks and software.

1999 Revenue: $6.7 billion.

Trailing 12-Month Revenue: $8.1 billion

1999 Earnings Per Share: $0.46

Trailing 12-Month Earnings Per Share: $0.64

Stock Snapshot

Current P/E: 118.8

Stock Price: $76

52-Week Range: $104.94-$47.50

Percent Change from 52-Week High: -28%

Shares Outstanding: 2.1 billion

Source: Morningstar

The data-storage giant that everyone loves to love managed a 21.7% return in 2000, while the average tech stock cratered 33.1%, according to Morningstar. EMC's stock now sports a lofty price-to-earnings multiple of 118.8. Do market pros think the company's heady growth projections and dominant role in a vital market will enable the stock to defy gravity, or will new competitors eat away at EMC and knock the stock down?

That's the question this week's Gut Check put to fund managers and analysts. Their response? EMC will continue to lead the data-storage market and is a good long-term hold, but the economy and market jitters give some experts pause in the short term. Also, the earnings report due Tuesday should yield some clues as to whether the company will silence any doubters.

"We are very happy to continue holding our above-average size in EMC because from a fundamental standpoint, we think it will hold up no matter what," says Michael Boyle, co-portfolio manager of (BFUNX)Boyle Marathon fund, which has 5% stake in EMC. The unavoidable need for storage, coupled with EMC's strong market position, has enabled the stock to "hold up better than some of the other tech stocks" in the last three quarters of 2000, he says.

Gut Check on EMC
Pros	Cons
The network storage market is projected to grow 10 times from $5.5 billion in 1999 to $55 billion by 2004.	Even as terabyte-sized data warehouses become more common at large corporations, an economic slowdown could still hit IT budgets.
EMC has captured 20% of the storage market by distinguishing itself with an exclusively storage focus, data management software and a worldwide sales force of 6,500.	Success breeds competition, and IBM, Hewlett-Packard, Compaq and Network Appliance are all putting bigger bets on this game.
First Call/Thomson Financial consensus estimates put EMC's long-term future earnings growth rate at 30%.	EMC's P/E is still a pricey 118.8.
Source: Bear Stearns, EMC, First Call/Thomson Financial, Gartner Group

EMC, which opened Friday at $76, is down from its 52-week high of $104.94, a peak that it reached in December. The number of fund managers who like EMC has grown: In December 1999, 25% of all domestic funds held a position in EMC. In November 2000, that number rose to 30%, according to Morningstar.

EMC Enthusiasm The number of funds that have held EMC has risen since the beginning of 2000.
Date:	Number of Domestic Funds Owning EMC:	Percent of Domestic Funds Owning EMC:
Jan. 1, 2000	668 out of 2,662	25%
Nov. 30, 2000	875 out of 2,886	30%
Source: Morningstar

Fund managers point to multiplying computer records and memory-hungry Internet and video streaming as drivers of data storage growth. David Brady, senior portfolio manager of the (SRLFX)Stein Roe Focus fund, says he holds a sizable 5% position in EMC because he has "a good deal of conviction about storage spending."

EMC is "the brand name for storage," Brady adds.

Colin Ferenbach, portfolio manager of the (HAVEX)Haven fund, says, "The slowdown in the IT business in general is not necessarily applicable to the storage companies," Ferenbach says. "The thing about storage is that it doesn't go away. The need just keeps getting bigger."

The Haven fund, which bought EMC in October 1996 at $3, now has 8.65% of its total assets in EMC, Ferenbach says.

Figures from Gartner Group underscore these portfolio managers' enthusiasm for EMC. The network storage market is poised to grow 10 times, from roughly $5.5 billion in 1999 to nearly $55 billion in 2004, according to Gartner.

EMC Chief Executive Officer Michael Ruettgers gave figures of his own earlier this week in a Webcast. Ruettgers predicts GDP growth of 3.6% through 2004, 5.9% for PCs, 6.2% for servers -- and a whopping 22.2% for storage.

The only matters making some fund managers hesitant about EMC are its still-high P/E and signs of an economic slowdown. If the tepid conditions continue, the climate won't totally eradicate the need for storage, they say. However, it could slow application development and make CIOs hesitant about upgrading their storage systems, they caution.

Bear Stearns senior managing director Andrew Neff recently downgraded his rating on EMC from buy to attractive due to these concerns. In addition, Neff cautions, EMC's "high valuation allows no room for error."

EMC first began wresting storage management from IBM(IBM) 10 years ago. It has gained a 20% market share of the Global 2000, the world's 2,000 largest companies, by convincing customers they needed to treat storage separately from servers, explains Bob Passmore, storage research director at Gartner. With a worldwide sales force of 6,500 dedicated exclusively to storage, as opposed to about 500 such salespeople apiece at IBM and Compaq(CPQ), EMC readily achieved a competitive advantage, Passmore says. "The server companies," meanwhile, "treated it [storage] as add-on orders," Passmore says.

EMC has also distinguished itself from competitors with superior data management and data mining software, says Carl Greiner, director of META Group's data center storage research.

Mike Shields, president and chief investment officer of Campbell, Cowperthwait, cites this software as a major reason why he holds it in the (UMGRX)Excelsior Optimum Growth fund. Shields' firm subadvises this fund, which has an 8% stake in EMC.

However, IBM, Compaq, Hewlett-Packard, Hitachi and Network Appliance are all now onto EMC's success and are beefing up their own software, storage sales teams, and multiplatform interoperability and to compete head-on, Greiner says.

The prices EMC charges also are somewhat of a concern, Passmore says. EMC's storage hardware can cost as much as $3 million while annual software maintenance costs can average $150,000. "EMC tends to get the highest price per megabyte, gigabyte and terabyte, and this causes some tension in some customer environments," Passmore says. (A megabyte is 1 million bytes, a gigabyte is 1 billion bytes and a terabyte is 1 trillion bytes.)

However, Neff of Bear Stearns disagrees. Likening data storage to "life insurance that enables businesses to manage and monetize their corporate data," Neff says the importance of data storage overrides any concerns over price.

"While aggressive price competition by other storage vendors could impact EMC's position at some point, we have yet to see strong evidence of customers choosing storage solutions based on price points alone," Neff says. "HP, IBM, Sun and Veritas do cater to some of the storage management needs of customers, [but] EMC is the only vendor that offers end-to-end solutions in terms of robust hardware, software and service/support."

EMC=Success These funds have made big commitments to EMC.
Fund	Total % of Fund	Date of Portfolio
(RILCX)Riggs Large Cap Growth	9.62%	Sept. 30
(PGWCX)PIMCO Growth	9.52	Oct. 31
(PCFIX)PIMCO Select Growth Institutional	9.25	Oct. 31
(PTSGX)Pitcairn Select Growth	9.20	Oct. 31
(HAVEX)Haven	8.65	Nov. 30
Source: Morningstar

Putting the Byte on EMC These funds have sold big stakes in EMC in recent months
Fund	Shares Sold	Date of Portfolio
(APGAX)Alliance Premier Growth	3,012,000	Sept. 30
(VWUSX)Vanguard U.S. Growth	2,845,000	Sept. 30
(MCFGX)Merrill Lynch Fundamental Growth	2,100,000	Sept. 30
(JAMRX)Janus Mercury	1,990,000	Oct. 31
(MIGFX)MFS Massachusetts	1,359,000	Oct. 31
Source: Morningstar

>To order reprints of this article, click here: Reprints