Seagate's Earnings Weren't That Bad

NEW YORK ( TheStreet) -- Seagate ( STX) earnings disappointed the market Monday and the company's shares plunged more than 8% in after-hours trading.

In my opinion, however, Seagate investors became distracted ahead of the earnings report, which made their expectations unrealistically high.

Instead of remembering that Seagate issued an earnings warning on July 5, they focused on rival Western Digital's ( WDC) strong earnings report last Wednesday, thinking it portended strong results from Seagate, too.

And in recent days, they bid up Seagate's stock.

Shares were recently trading at $29.10, down $1.33, or 4.4%, after Monday evening's deeper decline.

But even at its recent levels, Seagate stock is still up nearly 18% in July.

I think the selloff will be short-lived.

The hard drive maker's stock price has risen 120% over the past year and remains in a bullish trend.

Even though the company's reported revenue of $4.5 billion matched the lowered expectations Seagate made in its July 5 warning, the number was still a record. And the company still has a 42% market share in storage.

Seagate has a price-to-earnings ratio of 6.6, according to Yahoo! Finance.

Historically, stocks with a P/E of less than 20 outperform those with P/Es of more than 20. Does this mean you should invest in companies with multiples below 20 without any further consideration?

No, however, it does mean when you consider an investment such as Seagate, you typically aren't the last person on the train. Monday's after-hours fall was more turbulence than a shifting sentiment in the company or management.

Based on my experience with gap-downs following guidance and news similar to Seagate's, the stock likely will put in a short-term low Tuesday or Wednesday.

With Tuesday's opening gap-down price near $28 for Seagate, continued downside pressure probably won't last long.

TheStreet's Gary Dvorchak takes another look at STX in "Learning to Turn Tail". (You need a Real Money Pro account to read it, but Dvorchak's analysis makes it worthwhile.)

Bargain hunters and short-sellers covering positions could push Seagate's share price up another 10% by the middle of the month.

Looking at the chart, I expect short-term resistance near $30 for Seagate and again at $31.15.

Round numbers often attract like a price magnet and repel, causing a bounce.

Investors should expect a lot of volume to trade near $29 a share, and also expect bargain hunters to initiate positions under $28 as an entry.

Seagate doesn't have a lot of debt relative to cash, and the price-to-earnings multiple is very low compared to the S&P 500. The company simply didn't miss by much and I view the quality issues as a speed bump.

Here are some positive statements from CEO Steve Luczo during Monday's conference call:
... we announced today that we have raised our quarterly dividend payout 28% to $0.32 per share.
We are on plan to reduce our share count to 350 million ordinary shares outstanding by calendar year-end 2012.
In our enterprise business, we had a strong year-over-year growth, reflecting demand for cloud infrastructure build-outs and enterprise storage. Our shipments to cloud applications grew faster than the market, increasing 70% year-over-year.

If you are reviewing the recent price drop to signal a short-term buying opportunity, you are likely to find Tuesday or the opening on Wednesday to be near the sweet spot.

At the same time, there is no hurry jumping on board with Seagate for longer-term investors. Stocks that decline as a result of earnings and guidance usually take two good earnings quarters to recover. That said, I believe the odds favor a faster-than-normal recovery for Seagate.

What's the best play with Seagate? There should be a very attractive trade coming up Wednesday and or Thursday.

If it's still trading lower near the end of the day, sell out-of-the-money puts. Fear of continued losses tends to push portfolio insurance prices up dramatically.

It's not one to get greedy with, so hold on for a few days and as the implied volatility falls (hopefully with a nice dead-cat bounce) exit out with a quick hit and run for profits.

For longer-term investors, the best play is to wait until we are closer to the next earnings release for an entry.

At the time of publication, the author held no positions in stocks mentioned..

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

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