Western Digital Corporation

WESTERN DIGITAL – EARNINGS PREVIEW

OVERVIEW OF WDC.

• Design, develop, manufacture and sell hard drives.

• Design and develop solid state drives

• November 2009 - entered the traditional enterprise market with WD S25, which is a 2.5-inch, SAS interface hard drive (cloud computing)

• Develop and manufacture hard drives for the desktop and mobile PC, enterprise, CE and external hard drive market

• Western Digital inherently bad reputation, product failures. However, they are cheaper than other drives and certainly have more drives available in more retail stores. The negative reviews could be a result of market penetration i.e. more of their products are out in the market.

• Business Development Manager for Western Digital in Australia, Damien Hodge said that his company was currently selling millions of WD hard drives to cloud computing providers such as Google – 26/11/2010

• In 2010, 64% of hard drive net revenue was derived from non-desktop markets, including notebook computers, CE products, enterprise applications, and WD-branded product sales, as compared to 62% in 2009

• For 2010 and 2008, no single customer accounted for 10%, or more, of the Company’s net revenue. For 2009, sales to Dell Inc. accounted for 10% of the Company’s net revenue.

FINANCIAL

• Low PE ratio of 6.05

• Short % of Float (as of Dec 31, 2010) 2.80% - very low short interest.

WDC : Sales by Region	2010	2009	2008	Growth
	$m	$m	$m	08/10
United States	1,889	1,492	1,949	97%
Asia	5,239	3,639	3,343	157%
Europe, Middle East and Africa	2,260	2,008	2,344	96%
Other	462	314	438	105%
Total	9,850	7,453	8,074	122%

Given the growth from 2008 to 2010, particularly sales in Asia, the low PE certainly does not align with high sales growth.

VALUATION

EBITDA for 2010 is around $2,035m. Market capitalisation is around $7,680m. Cash flow from operating operating activities was $1,942. The balance sheet has very little debt.

Current assets less total liabilities stands at around $2,101. This represents 27% of the share price. This values the revenue of $9,850m at $5,738m. Or put it another way the company is valued at around 2x EBITDA.

OPINION

I started off analysing the financials of this company. However I soon came to the conclusion that the financials are not what really matters for this company’s valuation, but the probability that the products that WDC produce will be the will be a 'windows phone' of the future. i.e. something that no one buys and is completely useless.

The hard drive makers have been bashed largely due to the growing coverage of cloud computing. The problem is that the wall street analysts sitting in New York offices with 4G networks have not tried a mobile broad band connection in developing nations such as the UK, China, India.

In the UK for example we have areas that still do not have mobile access, let alone a 4G network to download large excel files whilst on the move. Hotels charge £6.00 an hour to access the internet. Not ideal if you have all your critical documents sitting on a Google server farm. Impossible and expensive to work in the absence of a machine without a hard drive. And using public wi-fi channels ? Completely insecure as far as I am concerned. Apply this reasoning across the rest of the developing nations and it is apparent that hard drives are not going to disappear. Just looking at the sales figures in Asia clearly demonstrates that the demand for WDC products is certainly not abating.

Cloud computing is great in offices with good connectivity and countries with fast mobile connections, however it will take some years for the rest of the world to have such high speed connections which will eliminate the need for hard drives. Not to mention the significant investment required.

Other items that the analyst have failed to take note of is that the size of media files is growing faster than the increase in the available speed on mobile networks. So with the exception of music files, the excel spreadsheets, photo, HD media are also bigger.

Mobile operators are also moving away from unlimited mobile broadband access, to a pay per use. There is very little point in having all your home movies in a cloud network when you get wacked with a $1 bill each time you access them.

Mobile monopolies still exist across a lot of Europe. Further the European Commission has been meddling in the pricing of roaming and data charges, forcing roaming price caps by mobile operators. The impact of this is that where travelling Europeans were subsiding unlimited access for local non travelling users, this is no longer the case. The outcome is that all users are now subject to data caps with fees for exceeding the cap.

RIMM and Trading Positions

Yesterday, via my twitter account I mentioned that I had taken 4 positions below, all for post market earnings trade.

Ticker	Security Name	Position	$
RIMM	Research In Motion	Long	30,000
SCS	Steelcase	Short	30,000
ANC	Accenture	Short	30,000
ORCL	Oracle	Long	30,000

RIMM is not a street favourite. In fact it nearly always gets hit at earnings. However a lot of businesses continue to use Blackberry and those that can't afford an iphone choose Blackberry as the second option, and has decent encryption.

RIMM' results were impressive. The current PE of 11.39 is far too low given the growth in sales and cash flow this company is generating. Q4 earnings per share projections are between $1.74 and $1.80. This brings EPS to $6.32 for the year. The share price is $59.24 giving a PE of 9.33. Thats even lower than Nokia's (NOK)

There is an expectation that its market share will erode much like Nokia's, but management are much more on proactive than Nokias management, who were complacent.

RIMMs valuation is around $31bn. In the last 6 months it has generated $2bn of cash from operating activities. Thats say $4bn a year. Giving a Market Cap / Cash Ratio of around 7.75

Compare that to say YHOO valuation of $21.5bn, annual cash flow of $1bn provides for a ratio around 21.

The street sometimes forgets that the 2bn people in the BRIC countries cant all afford iphones. 3G Networks outside of the US are in general poor. In UK the for example, outside of London 3G connection is slow or not available, similar to other third world and developing countries.

Both the Android and iphone require extensive bandwidth even for accessing email, where as the blackberry does not. There is no point having an iphone and an one line mail account if your access to 3g is limited.

It will be some years before the rest of the world will catch up with decent 3G connections which would make the iphone or android phones appealing to use.

Adobe

This is one of the reasons why I wish adobe would just disappear. Whether it is my Linux machine or my Windows machine, Adobe does not behave !

MLHR (Herman Miller) and its 401k

Shady Going On’s MLHR.

Main institutional holders of MLHR stock as at 30^th September.

Holder	Shares	% Out	Value*	Reported
WELLINGTON MANAGEMENT COMPANY, LLP	2,631,418	4.61	51,786,306	Sep 30, 2010
VANGUARD GROUP, INC. (THE)	2,340,516	4.10	46,061,354	Sep 30, 2010

Within Herman Miller 401k there was a holding of 4,230,566 shares. This represents around 8% of the company.

Wellington and Vanguard Funds are also held by the 401k and surprisingly also hold significant portions of MLHR.

Total holding by what I would consider “insiders & friends” is around 16%. This is very significant holding.

In the UK its probably bordering on illegal to have the pension scheme not diversify the risk.

By both the 401k and the underlying funds holding MLHR stock, stop extreme price movements.

Even worse is that the total fund assets was $377,265,055 at the end of which $81,353,789 represented MHLR stock (excluding that held by the underlying mutual funds).

The underlying mutual funds probably hold another $10,000,000 (at a guess) assuming contracts were awarded to Wellington and Vanguard were on an ‘understanding’ basis.

Without specific disclosure of the funds in the 11k, it is difficult to identify the funds, let alone the underlying holdings.

So around 24% of the 401k plan has underlying stock of the company itself i.e MLHR.

In 2007 the value of these 4m MLHR shares was around $167m. They are currently valued at around £81m. They managed to shave off around 20% of the 401k return just by holding their own stock.

Surprisingly the 11k does not identify comparative investment return’s, given the high level of transparency it has in the markets, I am a little surprised.

I’m surprised that the 401k holders have not sued MLHR for the poor performance, largely due to the significant holding of MLHR stock itself.

Two things can happen;

1) The underlying holders of the 401k may sue MLHR for poor performance given the large proportion of MLHR stock

2) MLHR will need to replace its own stock with something better performing.

Either way it could spell bad news for MLHR share price, with such a large 'insider' holding propping it up.

Where next for Retailers ?

The internet has changed the face of retail. Are any retail shares worth buying ?

First it was the records shops, then the bookstores, the electronic retailers are already being hit. (BBY today!)

Pharmacys, shore stores & perfume shops are slowing seeing their customers move to the internet.

Basically any item that can be easily identified i.e. any brand name will always be found cheaper on the internet. Some of the french perfume houses are trying to stop this through the French courts, but alas the internet will always prevail.

So the retail space will be full of clothes shops and restaurants in the foreseeable future.

I am just waiting for my FL (Foot Locker) sales to drop.

Why you should not trade in the UK.

I started off trading on UK stocks some years ago. Within the first year I discovered that any private investor thinking of trading in the UK is at a large dis-advantage compared to institutional investors.

I try and limit my activities to the US for the following reasons

• Prices for stocks are free and Level 2 is cheap. (Here the London Stock Exchange only provides prices on a 20min delay and wants to charge extortionate fees for real time and level 2 data). Unbelievable and completely backward !
• If I create liquidity both sides of the trade I actually receive money back for trading in the US. That’s right if I buy and sell BAC at say 11.13 and create liquidity on each side I make money, even after commission.
• Information in the UK is expensive and there is no central place for data, compare that to the SEC filings – perfect standard data across all companies
• Information on options, short interest is not easily available in the UK. Compare that to Nasdaq where all financial data is available
• The US has better quarterly reporting regime, giving you 4 chances a year to get it right !
• You cannot day trade in the UK the commission costs are far too high.
• Its easy to get access to the NYSE floor brokers, which means you get filled before the price rolls through a level. So you can ‘parity trade’
• The US markets are far more liquid, mainly because their exchanges are very forward thinking. Compare that to the London Stock Exchange dinasour that we have here, where systems go down on critical days and price information is a commodity.

Trading Radar Next Few Weeks

Earnings that are on my radar for next week 13th December 2010

MLHR, AIR, DFS, CCL, RVI, HOV, BBY, CPR.L, APOG, JOYG, ACN, ATU, FDX, GIS, PIR, RIMM, RAD, SCS,

Earnings that are on my radar for next week 20th December 2010

ADBE, AM, CTAS, JBL, NAV, KMX, CAG, FINL, NKEm PRGS, LNN, WAG.

For you new traders or those that are beginning take around $5,000 exposure for each trade.

You can expect around 3% movement on each trade. So around $150 profit or loss. Lets assume that you get it right 70% of the time.

There are 30 potential trades. 21 Gains 9 Loss Expected Income for the Christmas presents is

Profits of 21 x $150 = $3,150

Losses of 9 x $150 = $1,350

Net Profit $1,800 !

I will, if I remember post all of my projections on this over the course of the coming weeks.