Troubled VMWare's Lowest Close Ever

Investors continued to shed VMware (VMW) shares today in the wake of yesterday’s firing of CEO Diane Greene and a reduction in the company’s 2008 outlook.

The company, which went public August 13, 2007, at $29 a share, immediately went soaring higher, trading as high as $125.25 on an intra-day basis last Halloween. At the time, the perception was that the company had essentially no competition in the burgeoning market for server virtualization software; Microsoft (MSFT) has since made an aggressive move into the market, as did Citrix Systems (CTXS).

Several analysts this morning actually asserted that replacing Greene with former Microsoft exec Paul Maritz should be considered a positive development for the company. “It was not a completely unexpected move,” writes Citigroup’s Brent Thill. “We believe Greene did an admirable job taking the company from zero to over $1.3 billion in 2007 revenue, but a different leader seems needed for the next leg in VMW’s story.” EMC CEO Joe Tucci told the Wall Street Journal that Greene lacked the experience to run a company that this year will have close to $2 billion in revenue.

At the Register.com, Ashlee Vance theorizes that this was a case of Tucci simply disliking Greene personally. “We suspect that Tucci became less enamored with Greene’s style as VMware’s fortunes rose,” he writes. “He would have very little leverage over the firebrand in Palo Alto. She was responsible for making him look good. She wanted too much control of this VMware gem. She caused too many headaches. People kept thinking maybe she should have the EMC CEO post. Ultimately, she had to go.”

All across the Street, analysts slashed estimates on the company. Lehman’s Israel Hernandez, for instance, dropped his target on the stock to $41, from $75, and gave four reasons for caution on the stock, even at the newly reduced share price: Guidance may be too high given macro weakness; building competitive pressures; additional senior management changes; the impact on employee morale from founder Greene’s departure.

Citi’s Thill, who maintains a Buy rating on the stock, nonetheless cut his target to $52 from $80, and noted that the reduced guidance for 2008 reflects “macro issues which are elongating sales cycles and causing customers to break deals into smaller pieces.” He adds, though, that “the decision to lower guidance may have also been driven by a desire to reset the bar for a new CEO.”

Another key takeaway from the management change is that it appears to make it less likely that EMC Corp. (EMC) will spin off its 86% stake in the company; that no doubt will be disappointing to some EMC holders, who see a spin-off as a way to increase shareholder value. On the other hand, RBC Capital’s Thomas Curlin contends that the issue is not whether EMC wants to spin out its VMW stake, but rather “what they will be forced to do by shareholders” if EMC shares continue to trade in the mid-to-low teens. An alternative for EMC, he says, would be to sell all of VMware to a strategic buyer. “This is a reasonable scenario to consider,” he says, “as we believe an independent VMware will immediately become a strategic target.”

VMware today fell $2.48, or 6.2%, to $37.71, the stock’s lowest closing level as a public company. EMC shares fell 29 cents, or 2.2%, to $13.10. EMC shares have dropped 31% since it took VMW public last summer.

Comments

[muley101:]

VMWare has had its day in the sun. The reality is that all distributed computing Operating Systems vendors are building virtualizaton into their operating systems and will deliver that capability within a year or two. In addition, IBM (the inventor of VM) is presenting a compelling story for server consolidation under Linux (Redhat or SUSI) under VM on the system z (mainframe) platform. People would rather buy their virtualization engine from their OS vendor than to add on a layer from another OEM vendor.

2008 Jul 09 08:08 PM

[BM1087:]

Yeah right, you're joking. VMWare is light years ahead. If you worked with the product you wouldn't be making those assumptions. Speaking of Redhat weren't they going to replace Microsoft in the very late 90's? All those open source office apps were going to replace office? How about Novell, Palm, and NetScape? The only chance against VMWare is Microsoft buying Citrix and coming out with a new OS based on a Linux kernel. Then they have a real chance. No one in IT management is going back to VM Mainframes. You know why? Cause they don’t have the staff to support it and IBM will bleed your IT budget dry. BTW: Not holding any positions in any company mentioned.

2008 Jul 09 11:52 PM

[ck2008:]

bm1087, I find it odd that you would Use Novell and Netscape as arguments to support an argument for maintaining a competetive advantage over Microsoft. If I recall correctly, both were "Light Years Ahead" of the comparable Microsoft offerings in 1994. As for Microsoft creating an OS based on a Linux Kernel, Why would MS even consider such a move given that they already have the underlying 64 bit kernel to server 2008. You should read up on the server core installation option of Server 2008; I don't know if it's leaner than an ESX distribution, and it's also known that Hyper-V is not nearly the mature product that ESX is, but I do know that the guys at MS can and will rebuild the Server 2008 Kernel to make it work even better with their Vitualization technology.
I'm not saying that VMWare is going away tomorrow, but they do have a serious threat to contend with and those "Light Years" you speak of are rapidly disappearing. If you don't believe me, ask the folks at Novell, Palm, and Netscape.

2008 Jul 10 11:10 AM

[Steve Funk:]

I have lived through all of the changes that you mention and have dabbled in the different stocks mentioned along the way. Since the beginning of the computer industry it seems that the technology has been over estimated and the business systems behind the companies and the market forces have been greatly underestimated. Microsoft's growing server market share and proven marketing prowess make it dangerous to bet against them with VMWare stock. Besides, VMWare can actually help boost Microsoft Server sales (and Oracle). MS wins either way and lives to try again if they come up short. They have done this over and over again. VMWare probably has peaked in market share.

Instead of technology, you should consider barrier's to entry in the marketplace. Ultimately that is what did in Netscape. If you have enough time and money (as MS does), these software technologies just are not that hard to duplicate and if priced right managers are not going to count CPU cycles before buying a particular technology. It is all about the marketing and I have not seen VMWare be proactive in their marketing plans. I think that EMC cashed out at the right time and investors are now beginning to realize that. This will be just another good software company with good cash flow, low dividends, and constant market threats that make the stock volatile. Not a great investment.

2008 Jul 10 12:22 PM

[The Ash Man:]

Good comments by all, thank you. However is this market the same as the other IT businesses mentioned that failed? This technology really can save tons of money for a business and it is Green. There is so much growth potential. MSFT product is great for the SMBs that don't need to consolidate 50, 100, or thousands of servers, but VMware's product is by far the best right now. Technically Microsoft doesn't even compete in the enterprise-class arena (I am an IT guy, not a professional investor). Virtualization has a big up front cost which is probably why in a slow cycle business is reducing orders for VMware, but the ROI in each out year is huge. Microsoft's inferior product is only going to compete because they are giving it away because they have billions of dollars in profits every quarter. I know the prospects don't look great, but do businesses really want to make MSFT more powerful and be at their mercy in this market? I think if VMware cuts their prices they will rebound from this. I know that the MSFT ecosystem is forcing our organization to spend a lot more than we need to on software. 3 years ago we laughed at the prices some of their pricing plans. Now that we entered an agreement with them we aren't laughing. I know it would be the same if it was IBM, but there should be a better way.

2008 Jul 11 12:33 AM