EMC shares are undervalued

Cloud computing and increased social networking boost demand for this data-storage leader.

By TheStockAdvisors Oct 5, 2012 10:35AM

Martin Barraud, OJO Images, Getty ImagesBy Jim Yin, S&P Capital IQ, The Outlook

Our latest Focus Stock is EMC (EMC), which carries S&P Capital IQ's highest investment recommendation of 5 stars, or "strong buy."

The company is a leading provider of data-storage solutions that support transaction processing, data warehousing, electronic commerce and content management. It helps customers manage and secure their vast and ever-increasing quantities of information, and it helps automate their data centers and reduce their operational costs.

The company divides its operations into two major businesses: information infrastructure and VMware virtual infrastructure.

We believe EMC will benefit from two major information technology trends we see developing: the rapidly increasing amount of data that enterprises generate and need to store, as well as the growing popularity of "cloud computing," in which IT infrastructure is accessed via the Internet instead of being housed at the customer's premises.

These two trends should drive increasing demand for EMC's products. According to IT researchers IDC, EMC is the market leader in enterprise data storage systems.

In 2010, the company acquired Isilon Systems, which makes products that can store vast amount of data under one file system. This simplifies and reduces the cost of managing "big data" -- giant data sets that incorporate seemingly unrelated information towards a commercial goal.

We believe further gains in market share, along with the trends of big data and cloud computing, should be a catalyst to EMC shares.

Despite our concern about a weaker global economy, we look for growth in the amount of storage capacity shipped of 40% per year.

We believe the factors that have been driving demand for enterprise storage in the past such as the conversion of information stored on paper into electronic files, will continue.

Additionally, we see greater usage of e-mail, instant messaging, twittering, and other forms of social networking communications. We think all of these interactions will require the information to be stored somewhere on an enterprise data storage system.

We believe another catalyst for stronger growth in the industry will be cloud computing. We see increased adoption of cloud computing because it addresses one of the most pressing IT problems, the high operating costs of enterprises' data centers.

The main source of this problem is that most servers are dedicated to run a single software application and are designed to meet peaked demand. Thus, they are often utilizing a fraction of their processing power.

Cloud computing and its main underlying technology, virtualization server software, can reduce the number of servers by consolidating many different types of workloads and operating systems onto virtual environments.

In order to obtain the full benefit of cloud computing, however, physical resources such as data storage need to be networked.

Instead of upgrading their legacy data storage infrastructure, most companies are purchasing new data storage systems with networking capability.

We think EMC will benefit from these industry trends more than most of its competitors due to its market leadership in enterprise data storage system.

Given our view of near-term catalysts and long-term growth potential, we consider EMC shares undervalued. Our 12-month target price of $36 a share, which is based on discounted cash flow analysis, represents potential upside of about 30%.

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