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Can Quantum Corp. Leap Over a Lower Bar?

|Includes: BRCD, CML, DVMT, NTAP, Quantum Corporation (QTM), STEC, STX, WDC


Over the past year, the data storage devices industry has been outperforming the S&P 500, and even technology as a whole. Things have really started to accelerate over the past six months, and a relatively small group of stocks that focus exclusively on storage look unbeatable. Out of the 8 companies with market caps north of $500 million in the data storage device industry, the two largest, EMC Corp. (EMC) and NetApp (NASDAQ:NTAP) along with STEC, Inc. (NASDAQ:STEC) and Compellent Tech. (NYSE:CML) are trading right at or very close to a 52 week high. Also in this group, Western Digital (NYSE:WDC), Seagate Tech. (NASDAQ:STX) and Brocade Communications (NASDAQ:BRCD) (see our latest article on BRCD), are all at or near a six month high. The smallest of these eight companies, Quantum Corp. (NYSE:QTM), has seen a different pattern over the past year.


After climbing from below $2.00 in late Summer of 2010 to above $4.00 early this year, the gain was halved overnight when their fiscal third quarter results disappointed some robust estimates. Not only did the company fall short on revenue, but non-GAAP earnings of 7 cents a share were below the 9 cents expected. GAAP earnings disappointed by an even larger margin. What ensured the substantial and immediate value cut in the stock, however, was the companies guidance for the fourth quarter causing analysts to cut estimates in half.


Scratching just a tiny bit under the surface reveals evidence that the new forward P/E of 10 could be a buying opportunity rather than a bad omen. First of all, the company reached profitability for the first time in almost a decade, earning 2 cents per fully diluted share for all of 2010. The company is on track to double that for this year. During the ten years, the company only added about 70 million shares bringing it's total number of shares outstanding to 223 million as last reported.


The company's size and leverage was to the hilt in 2007, and since then, sales, assets and liabilities have been cut in half. The major catalyst of decline has been the slow death of their tape automation systems in favor of disk systems and software solutions. In the last quarter, tape revenue declined year over year by about $3 million, or 4%. Disk systems and software solutions grew by $6 million or 19% during the same period. Disk systems and software solutions also grew as a percentage of revenue from 12% to 15%. Tape Automation systems remains at just over 40% of revenue, losing just 0.4% on the year. Numbers also suggested that their tape sales are declining slower than the overall tape market, meaning they could be gaining market share. All of this implies that so far, the declines from the tape automation are being realized much more slowly than the gains from the disk systems.


Over the last year, the company has been cleaning up it's balance sheet. They may be half the size they once were, but a leaner business model has put them in a much better financial position. Sequential growth has not only been seen during the last quarter with respect to sales and net income, but it has been apparent for over a year now on the balance sheet. For fiscal 2010, the company added $30 million to their cash position, and cut their long term debt by 25% to $300 million. Now, that debt is at $278 million and current assets are at $331 million. The company paid down principle on a Credit Suisse term loan, and completely eliminated term loans with EMC in favor of adding to their convertible subordinated note count. So in addition to significantly reducing their long term debt, they have also been able to slash the interest rates on almost half of it.


These balance sheet improvements have led to some margin increases as well. During the last quarter, disk system and software solutions margins, which are higher than the tape margins thanks to having more branded solutions in comparison to royalty based ones, started to make an impact on overall margins as well. The companies goals seem to be in line with reality, they want to continue increasing revenue from disk systems and software solutions, and continue to gain market share in the slowly declining tape market. During the last quarter, Quantum did just that, and has foreshadowed similar results for the fourth quarter.


Wall Street clearly wanted more from this company, and took the stock down from near $4.00 in January to below $3.00 now. Not all have soured on this potential turnaround, however, as the stock is still up more than 100% over the last six months.

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