VMware: Re-Acceleration Of Long-Term Revenue Growth Guidance Provides Comfort For Investors

| About: VMware, Inc. (VMW)

Shares of VMware (NYSE:VMW) saw a big jump in Wednesday's trading session. The provider of virtualization-based cloud infrastructure solutions issued some upbeat comments at its Strategic Forum for institutional investors. Shares of the company traded with gains of up to 10% during the trading session.

EMS & VMware Strategic Forum

Last December, EMC Corporation (EMC) and VMware launched the so-called "Pivotal" initiative, to benefit from the growing "big data" theme and demand for cloud-based solutions. Wednesday's presentation gave some more information about the initiative.

Basically both EMC and VMware are going to combine resources to form a strong player in the cloud-based environment. VMware will contribute its vFabric, GemFire, Cetas and Cloud Foundry operations, while EMC will contribute GreenPlum and Pivotal Labs. VMware will hold a 31% equity stake in the new operations, it will hold preferred shares, and the firm will be represented in the board of the newly formed entity.

The company will move over some 500 in staff and it will become the sales agent for Pivotal, therefore receiving a fee for sales support efforts. EMC will contribute another 800 in staff to offer more efficient, controllable and agile cloud-based solutions. In essence, the integrated Big Data ecosystem would combine VMware's vertical specialization with EMC's hardware.

The new operations will have tremendous growth opportunities according to VMware, addressing a $50 billion market opportunity in 2016. The market is expected to grow at an average compounded growth rate of 20% until 2016.

Update on the guidance

As a result of the transfer of the assets, the full year revenue guidance of $5.23-$5.35 billion will be revised downward towards $5.12-$5.24 billion. While revenue growth will slow down to 11.2-13.8% as a result of the transferred assets, non-GAAP operating margins will increase by 150 basis points to 32.5-33.5%.

VMware expects to accelerate its revenue growth rate towards 15-20% between 2014 and 2016, driven by subscription and services growth. Operating margins are expected to increase by 50 basis points in each of those years as the company will re-focus on revenue growth and profitability again and divest non-core assets.


VMware ended its full year of 2012 with $4.6 billion in cash, equivalents and short term investments. The company operates with $450 million in debt, for a net cash position of roughly $4.1 billion.

The company generated full year revenues of $4.6 billion for the year on which it eared $746 million, or $1.72 per diluted share.

Factoring in a 8% jump in Wednesday's session, the market values WMware at $34.9 billion, or its operating assets around $30.8 billion. This values the firm's operating assets at 6.7 times 2012's annual revenues and roughly 41-42 times annual earnings.

VMware does not pay a dividend at the moment despite the strong financial position.

Some Historical Perspective

Shares of VMware peaked in 2007 around $120 per share. The recession in the following year send shares back to lows of $20. From that point in time, shares have recovered, trading in a $75-$115 trading range over the last years. Shares fell some 20% in January after the guidance for the full year of 2013 came as a disappointment. Shares fell from almost $100 per share towards $80 per share as a result.

Between 2009 and 2012, VMware managed to more than double its annual revenues from $2.0 billion in 2009, towards $4.6 billion last year. Net earnings almost quadrupled from $197 million to $746 million over the same time period.

Investment Thesis

Investors in VMware have seen the value of their holdings consolidated in recent years, despite the strong revenue and earnings growth. The slowdown in topline revenue growth in 2012 resulted in a share price which tested the low-end of its three-year long trading range.

Full year revenue growth for the year of 2012 fell a full 10 percent points to 22% amidst increased competition, pressure on prices and a tough economic environment. While the growth rate is still impressive, it is expected to slow down even further to 11-13% for the current first quarter of 2013. Based on the full year revenue outlook for 2013, the market values the firm's assets around 5.9 times annual revenues.

Wednesday's presentation comforts investors as the strategic plan of the "Pivotal" business allows the company to increase focus and accelerate its growth into 2014 and beyond, towards 15-20% per annum. Hopefully for investors, earnings growth can keep up with revenue growth. In 2012, VMware's earnings did not keep up pace with revenue growth on the lack of positive sales leverage, higher taxation and increased investments in Research & Development.

While the long term growth opportunities for the cloud are immense, competition will be increasingly fierce as well. Amazon.com (AMZN) has focused on retail and small businesses with its public cloud based solutions, while names like IBM compete in the large corporate market, which is more private based.

The good thing is that a 20% sell-off in January made shares a bit cheaper, but the current valuation multiples are still very steep. The company took actions to increase its focus by contemplating lay-offs, selling non-core assets and moving ahead with the "Pivotal" project.

At these levels I remain on the sidelines despite impressive long term growth rates. I find it hard to estimate future developments and judge WMware's competitive position in this fast changing landscape. As VMware's activities might see an increase in competition from other players, the cloud-base runs the risk of being commoditized.

I remain on the sidelines given these uncertainties.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.