OCZ Technology Group (OCZ), a manufacturer of solid state drives, recently announced a number of material news items. To recap the prepared remarks of the conference call:
- The revised revenue guidance issued on September 5 for the most recent quarter can "no longer be relied upon" due to "customer incentives that were in excess of what was normal and customary in the past"
- New CEO: Ralph Schmitt, Former CEO of PLX Technologies (PLXT)
- In Q2, there was a huge emphasis to "grow market share at all costs," so "extraordinary incentives" were undertaken (rebates), so the company will be delaying its SEC filings to ensure a "proper accounting treatment can be applied to this event"
- The company's cash position has declined and the company has now accessed its credit facility
- Future actions will be focused on "innovation, quality and profitability"
- Negative gross margins
- Earnings call will be rescheduled as quickly as possible.
At the call, the Q&A session was particularly helpful, with the following key points noted:
- While the company is still undergoing a review process, it does not seem likely that the company will have to restate prior results - fraud is pretty much off the table.
- Company sees itself "rationalizing the product line" and further sees that the diversity of product line is inappropriate for a company of OCZ's size. OCZ plans to migrate away from more commoditized areas of SSDs and move more into the high end of both the client market as well as pushing further into the enterprise market.
- OCZ will be focusing on differentiation on the technology side (controllers, software) - the firm will not try to go head-to-head against the NAND flash fabs
- The company is "making significant progress" with its previously mentioned "Web 2.0 deals," and these are "key focuses" for the company, but no comments on particular customers.
Righting The Ship With A Sound Plan
The new CEO is taking OCZ in the right direction. OCZ's strength has been in its strong acquisitions (Indilinx, PLX team, SANRAD), which have positioned the company to have a healthy long-term outlook in the enterprise space. The problem, of course, was that previous management wanted to build OCZ to be, in the words of ex-CEO Ryan Petersen, "the next Seagate (STX)." Unfortunately, this meant trying to compete for consumer market share on highly commoditized drives while having a significant cost disadvantage compared with the NAND fabs.
The direction is to focus on higher margin businesses where the key differentiation occurs on the technological level (controller, software, features), rather than on a volume level. This will likely result in less-than-explosive revenue growth, but this will also lead to healthier, profitable growth. In fact, Mr. Schmitt made it abundantly clear that the company was going to focus on profitability and on delivering shareholder value - something that ex-CEO Ryan Petersen did not seem to give much priority.
Is It Too Late, Though?
The pressing question, though, is whether it's too late for the company. Fortunately, OCZ already has its "Barefoot 3" controller, its jointly developed PCI-E "Kilimanjaro" platform with Marvell (MRVL), and an enterprise flash caching software stack courtesy of its SANRAD acquisition. There is a lot of value here, as the company can focus its efforts on the following business opportunities:
- High gross margin PCI-E flash caching solutions
- Licensing controller technology to the consumer SSD players
- Selling high end, higher gross margin consumer drives, with an emphasis on high cost, high quality devices (similar to what Samsung and Plextor do)
- Selling SATA/SAS hard-drive form factor SSDs into enterprise usage. This would leverage the in-house controller development as well as consumer SSD development efforts
This would be a small, well-oiled, focused business. The company's fairly large headcount of 700 could be reduced significantly in restructuring efforts, relieving operating expense pressures that the company has continually faced.
Further, once the company has proven itself to be a flexible, agile player in these key, high margin SSD-related businesses, it would naturally become an acquisition target for the larger storage companies. However for this to happen, the company needs to be lean and have established a track record of technological leadership and business execution.
That being said, the company's cash burn and its tapping of the credit facility means that every dollar needs to be very carefully spent. There's no room for missteps, and it would only take a few fundamentally bone-headed moves to sink the company at this point.
A Speculative Buy
In light of these developments, and in light of the share price decline, OCZ is a buy for speculative investors. There's still a lot of uncertainty here, and as I noted above, the company's financial position is one of extreme vulnerability. New management will have to fight to keep the company alive, but if a turnaround is successful, OCZ can be a very prosperous player in the high-growth solid state drive market, albeit in a slightly different fashion that founder Ryan Petersen had envisioned. It won't be the next Seagate, but it could be the next SandForce.