More Than 50% of EMC's Stock Is Software Despite Hardware Heritage

Includes: DVMT, VMW
by: Trefis

EMC is known primarily for its storage hardware which competes with hardware from storage makers HP (NYSE:HPQ), IBM, NetApp (NASDAQ:NTAP) and Hitachi Data Systems.

Despite EMC’s hardware heritage, we estimate that about 57% of EMC’s stock is attributable to the company’s software. EMC’s software includes the company’s storage software and virtualization software from VMware (NYSE:VMW), a company that was spun out of EMC and in which EMC has an 84% ownership stake.

The surprisingly large contribution of software to EMC’s stock is attributable primarily to the higher gross margins on software. Below we discuss the margins for EMC’s storage software business and how the software business relies on the success of EMC’s storage hardware.

High Storage Software Gross Margins

EMC had about $6 billion of storage hardware revenue in 2009 compared to about $2.6 billion of storage software revenue. Despite high storage hardware revenues, the contribution of software to EMC’s stock is higher due to software gross margins that exceed hardware margins.

We estimate that gross margins for software storage were about 79% in 2009 compared to about 36% for storage hardware.

Software Depends on Hardware

Although software is a large driver of EMC’s value, it depends on EMC’s less profitable hardware business. EMC generates software revenue by selling new licenses bundled with the its storage hardware and by providing maintenance for the licensed software.

The correlation of storage software revenues and hardware revenues is exemplified by the recent declines in both. Software revenues declined from $3.2 billion in 2008 to about $2.6 billion in 2009 while storage hardware revenues took a dip from about $6.6 billion to $6 billion over the same period.

As a result of software’s dependence on hardware, EMC’s storage hardware market share is important for the company’s software revenues. We estimate storage software revenues will remain around $2.6 billion in 2010 as EMC’s market share improves by 1%.

You can modify the Trefis forecasts for Storage Software Gross Margins and EMC’s Market Share of Storage Gigabytes in the charts above to see the significance of their impact on EMC’s stock.

For additional analysis and forecasts, here is our complete model for EMC’s stock.

Disclosure: No positions