Seagate Drops On Buyback Strategy Statement

| About: Seagate Technology (STX)
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Cash flow and earnings are strong.

CEO said buybacks are attractive under $60 per share.

Dividends appear to be the preferred way to return cash to shareholders.

Seagate Technologies (NASDAQ:STX) had a good December 2014 quarter, characterized by extremely high cash generation. Guidance for Q1 2015 and full-year 2015 was about what would be expected of the storage drive industry. While many interesting points were made on the analyst call Monday morning, there was one that was certainly the catalyst for the 7.7% dive in the stock price. The press release was made available at 8:00 AM (Eastern), and the analyst conference took place at 9:00 AM Eastern. The stock hit bottom at $56.52 shortly after 10:00 AM.

Seagate reported repurchasing very little stock in Q4, just $18 million worth. Why? CEO Steve Luczo explained that the company is executing buybacks opportunistically. When the stock was below $60 per share, it was a good use of shareholder money.

Which implied that above $60 per share, there are better uses for shareholder money, like dividend payments or internal investment. I would agree, but clearly a lot of money was in Seagate stock on the assumption that buybacks would be used to defend or raise the price. It was not a bad assumption. Many companies keep buying back stock once they have announced an allocation of cash for that purpose, no matter what the stock price.

And so the stock ended regular trading on January 26 at $59.06, down 7.7% for the day. It is rare that you can see in the charts a result that lines up so nicely with a statement from a company that amounts to saying that the price will be defended with buybacks at a certain level.

I think investors are missing the big picture here. Seagate has become a dividend stock, so it does not need defending with buybacks. The dividend is now $2.16 per year, for a yield of 3.38% at Monday's closing price. Given that non-GAAP earnings in the quarter were $1.35 (or $5.40 per year), there is room to accumulate cash and grow the dividend. This high dividend should provide plenty of support for the share price.

Given the numbers reported for the December quarter (fiscal Q2) and calendar 2014, the earnings and dividend look dependable.

Revenue was $3.70 billion, which was down 2% from the September quarter, but up 5% from $3.53 billion in the year-earlier quarter. Not bad for a company that still makes hard disk drives that a few years ago pundits were claiming would be made obsolete by now (by solid-state drives).

GAAP and non-GAAP (adjusted) accounting gave vastly different results in the quarter, mainly due to a $773 million payment from rival Western Digital (NYSE:WDC), following an arbitration decision. It is a huge chunk of cash, and is included in the GAAP accounting, but says nothing about the long term. So while I generally favor GAAP numbers as more conservative, in this case I'll use the adjusted numbers. Adjusted net income was $452 million, not much different than the $453 reported for the September quarter, or the $455 reported in the year earlier. The resulting adjusted EPS was $1.35, up a tad from the year earlier only because stock buybacks have reduced the share count.

What it looks like is a company in stasis or slow growth. Seagate has some growth opportunities and dangers ahead, but no one should be calling it a growth stock. There was some talk of pricing competition in consumer-oriented drives at retail outlets, but also confidence in the growing long-term need for data storage both in the cloud and at the client end.

One thing that struck me about the presentation and conference call was a failure to talk about, or even of analysts to ask about, SSDs. After years of analysts only seeming to care if Seagate could get traction in the SSD market, this quarter marked analyst capitulation: Everyone has finally gotten the message that SSDs just can't totally replace HDDs, or even come close, and Seagate's SSD and hybrid drives are competitive with other manufacturers. We are back to questions about slight changes in margins and market share in particular segments, and whether cloud providers or cloud consumers are going to be trending higher or lower in their storage consumption.

For guidance, a soft March quarter is predicted, to be followed by sequential increases as calendar 2015 progresses. In other words, not much different than 2014. There should be no problem with cash generation that can support a dividend and investment in the next generation of HDDs, SSDs and hybrid drives. Once the next generation of drives gets to market, the margins should improve.

So, hard drives live, and so does Seagate. Cash ended at $3.3 billion. Operating cash flow was $1.4 billion, and would have been about $0.7 billion without the legal settlement. Dividends paid out were $177 million.

In the $50-$60 stock range, we can expect Seagate to use cash to buy shares, but not reduce the dividend. Above $60, the dividends could be increased, but in either range cash looks to pile up rapidly.

What is not to like? There are the usual macroeconomic and competitive risks every company is subject to. If all the capitalists who talk about the beauty of free markets, but are hiding most of their money under the skirts of U.S. Treasuries would take a look at the STX yield of 3.38%, with even stronger cash generation as a percent of the stock price, I would imagine the stock price will climb again, at least into the mid-to-high 60s.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: This story expresses my opinion as a journalist and individual investor; it should not be construed as financial advice.