LSI Logic's Hidden Storage Gem

Inside LSI Logic Corp. (NYSE: LSI), there's a gem of a storage networking business, albeit one whose value may prove hard for investors to mine.

Though LSI's Storage Systems subsidiary has a strong product line, an impressive customer list and a fiscal scorecard that shows $405 million in revenues for 2000, the division is often overlooked due to the high profile of LSI's semiconductor business (which generated more than $2 billion in revenue last year).

As a standalone company, LSI's storage networking subsidiary might have more sex appeal than the entire firm, whose stock price has remained nearly flat at around $20 a share since last December. Though most analysts tracking the company like LSI's long-term potential, the combination of LSI's chip-manufacturing burdens and the current down markets for LSI's main products leads to a host of Hold, Market Perform, and cautious Buy ratings on LSI stock.

"The biggest problem for LSI is something that's specific to a lot of companies right now," says Douglas Lee, managing director and senior semiconductor analyst at Banc of America Securities LLC. "It's weak markets."

After posting a banner year in fiscal 2000, with $2.74 billion in revenues (a 31 percent gain from the previous year), LSI ran into the market buzzsaw in the first quarter of 2001. A declining demand for LSI's ASIC products left the company with just $517 million in revenues for the first three months, down from $751 million in 2000's fourth quarter. Already, the company has warned that its second-quarter earnings will decline even further, to a number that will be revealed when LSI reports on July 26.The company's storage networking division, however, has become a bright spot amidst the gloom. To a historically strong storage chip-and-subsytem OEM business -- which includes clients like IBM Corp. (NYSE: IBM), Hewlett-Packard Co. (NYSE: HWP), and Sun Microsystems Inc. (Nasdaq: SUNW) -- LSI has recently added its own branded line of storage systems, as well as hardware and software for SAN and NAS implementations. The potential for growth in the storage markets has, in part, led several analysts covering the company to project a long-term per-share price of $30 or more.

According to Flavio Santoni, vice president of marketing for LSI's Storage System division, the company realizes that it has a perception problem when it comes to its storage assets.

"Many people don't even know the storage division exists," Santoni says. "We are now taking a more proactive stance to make sure the world understands our business."

According to LSI, the storage division actually came into the world in 1972, initially as a division of NCR (NYSE: NCR). Long a leader in storage technology innovation (the company claims to have developed the first SCSI chip and the first Fibre Channel RAID system), the storage division became a company called Symbios Logic, which was acquired by Hyundai Electronics America in 1995. In 1998, LSI Logic bought Symbios from Hyundai for $760 million.

As part of LSI, the storage division has become acquisitive itself -- snapping up two firms last year, Ark Research and Syntax, which, added software smarts in, respectively, the areas of virtualization and network-attached storage management.The division's software strategy, Santoni says, is to find multiple ways to make storage management easier and more flexible for users, especially those with a wide mix of heterogenous systems.

On the branded-product front, LSI offers its MetaStor E series of Fibre Channel storage systems for server-attached and SAN implementations, available in a capacity range from 90 Gbytes to 16 Tbytes. For NAS installations, LSI has the MetaStor N series of systems, which support a wide range of software protocols and have a capacity range from 18 to 73 Gbytes.

Though Santoni says LSI's OEM business isn't going away, the branded products allow LSI to pursue the market that its server customers typically ignore.

"The server vendors usually focus more on [selling] storage attached to their servers," Santoni says. "There's a big [storage] aftermarket for customers who already own servers."

Banc of America's Lee, who rates LSI as a Market Performer, says he sees some long-term growth potential in the company's storage businesses. But since LSI's overall bread-and-butter sales targets are communications (see LSI Logic Pairs With Wind River) and storage system vendors -- two of the weakest markets in technology right now -- Lee doesn't see any quick turnaround.Plus, he says LSI must overcome the financial burden of running its own chip fabrication facilities, which will depress margins and profitability as long as the down cycle continues.

"LSI has fixed-cost problems that some of its competitors don't have," Lee says.

- Paul Kapustka, Editor at Large, Light Reading
http://www.lightreading.com