EMC Hammered

EMC Corp. (NYSE: EMC) today confirmed its earlier forecast of abysmally lower earnings. The key culprit was the sagging economy and cutbacks in information technology spending. But although officials downplayed the issue, rising competition in the high-end storage market from the likes of IBM Corp. (NYSE: IBM) and Hitachi Ltd. (NYSE: HIT; Paris: PHA)also played a role, slashing gross profit margins (see EMC Profits Fall 75%).

For the quarter ending June 30, EMC earned $109 million, matching its earlier lowered guidance of 5 cents a share, on $2 billion in revenues. Prior to EMCs July 6 disclosure, the consensus expectation of analysts was 17 cents a share.

For the quarter a year ago, EMC earned $429 million, or 20 cents a share, on $2.1 billion revenues. Gross profit margins plunged from 58 percent a year ago to 47 percent.

Perhaps most discouraging to the forward-looking financial community was EMC’s inability to predict when business would bounce back. “Q3 looks worse economically than the current quarter,” said CFO Bill Teuber in a Wednesday morning conference call with analysts. “We can’t say anything definitive about revenue or gross margins for Q3.”

There appears to be more than the economy at play in the cloudy forecast. For the past several years, EMC has been the undisputed leader in storage for large corporations. But cracks have been showing through EMC’s armor as IBM and Hitachi are making more noise. Analysts say rising competitive pressure has forced EMC to cut pricing to as low as 4 cents per megabyte on select deals. That compares with first-quarter sales of around 10 cents per megabyte.Hewlett-Packard Co. (NYSE: HWP)spurned EMC about a year ago when it formed a partnership with Hitachi. Current rumors are that Hitachi is about to ink a similar agreement with Sun Microsystems Inc. (Nasdaq: SUNW), potentially further eroding EMC’s market share.

If that deal comes to fruition, however, it may not be as sweet as Sun and Hitachi are hoping. “Sun and HP are very competitive with each other,” says Jim Porter, president of Disk/Trend Inc. “You might have two major customers getting in each other’s way.”

EMC officials on the conference call downplayed the competition and insist they are “winning” more business from these rivals than they are losing.

Meanwhile, as other vendors encroach more on its top-tier customers, EMC is attempting to expand to the mid-tier market. But that is also becoming a crowded domain, as low-end storage vendors like Compaq Computer Corp. (NYSE: CPQ) and Dell Computer Corp. (Nasdaq: DELL) have begun to move up.

Still, EMC's revenues from network storage products grew 56 percent overthe year-ago quarter to $714 million, according to the company. EMC says it's outshipping archrival Network Appliance Inc. (Nasdaq: NTAP) with sales of its Clarion IP4700. It sold $100 million more of these devices than Network Appliance sold of its NAS boxes, for the first quarter of the year."Through its sheer size and dominance in the market, EMC will do well in this new sector as the global economy picks up," says Laura Conigliaro, analyst with Goldman Sachs & Co.

Despite current overseas economic weakness, EMC sees a strong future in global expansion. CEO Joe Tucci noted that overseas business has increased from 34 percent to 43 percent of total revenues over the last 18 months.

But rivals’ entrenchment in foreign markets will be hard to overcome. “EMC has never had huge overseas markets,” says Porter. “IBM has sales in every place in the world where people know what a computer is.”

In after-market hours, EMC was trading on Island at $18.90 a share, even below its 52-week low of $20.10. As EMC’s stock price sinks into the mire, some analysts see this as a buying opportunity for a leading company that’s struggling through some temporary hard times. Shebly Seyrafi, an analyst with A.G. Edwards, doesn’t expect the storage market to get any worse: “I see a bottom in Q3, a pickup in Q4, and a meaningful turnaround in 2002.” Seyrafi, who rates EMC a Buy, expects 17 percent annual earnings growth for the storage industry over the next several years, and he thinks EMC will top that with around 30 percent growth.

Porter also sees growth picking up significantly next year as he expects information technology will lead the economic recovery. “It’s hard to be a pessimist long-term in this business,” he says.— Tom Davey, special to Byte and Switch, and Jo Maitland, senior editor, Byte and Switch, http://www.byteandswitch.com