Should I Buy VMware? 3 Pros, 3 Cons

by Tom Taulli | April 19, 2012 12:39 pm

NewVMWare185 Should I Buy VMware? 3 Pros, 3 ConsSoftware developer VMware (NYSE:VMW[1]) continued to post standout results for its first quarter. Revenues increased by 25% from the year-ago period to $1.06 billion, and the company earned $287 million, or 66 cents per share.

The Wall Street consensus was for revenues of $1.03 billion and earnings of 60 cents per share, and the earnings beat had investors trumping VMW shares up more than 4% by midday Tuesday.

VMware has proven to be a solid investment for shareholders, nearly tripling during the past three years, including a 40% run-up year-to-date.

But after such a hot run, should you buy VMware stock? To decide, let’s take a look at the pros and cons:

Pros

Must-Have Technology: VMware is a pioneer of virtualuzation, which allows companies to get more power from their servers, often resulting in big cost savings. Customers range from small businesses to massive enterprises.

Strong Ecosystem: This is a huge barrier to entry. Over the years, VMware has assembled more than 2,100 technology partners, including Cisco (NASDAQ:CSCO[2]), Dell (NASDAQ:DELL[3]), Fujitsu, Hewlett-Packard (NYSE:HPQ[4]) and IBM (NYSE:IBM[5]). These arrangements have helped to improve VMware’s technology as well as boost the market penetration and brand.

The Cloud: This is a key growth driver for VMware. As companies continue to adopt cloud applications, there has been substantial demand for high-impact software for datacenters — and VMware is one of the leaders in the space.

Cons

Economy: Even though VMware’s software helps to reduce costs, its products still are vulnerable to economic slowdowns. So far, there are no signs of a problem, but management is being cautious. Weakness in Europe and even Asia eventually could be problematic. Another issue could be muted demand from U.S. government customers amid constant pressure to trim budgets.

Competition: While VMware remains the dominant player in virtualization, the competition is heating up. Some rivals VMW has to be concerned about include Microsoft (NASDAQ:MSFT[6]), Citrix (NASDAQ:CTXS[7]) and Red Hat (NYSE:RHT[8]).

Valuation: VMW shares are far from cheap, currently trading around 70 times earnings! And the company also doesn’t pay out a dividend.

Verdict

In addition to reporting strong earnings, VMware also upped its guidance for the full year. Revenues are now expected to range from $4.53 billion to $4.63 billion, up from the prior forecast of $4.48 billion and $4.6 billion.

The competition is getting stronger and there might be some macroeconomic headwinds to deal with, but the fact remains that VMware has a powerful ecosystem and should continue to benefit from the mega-trend of cloud computing.

It’s a good bet that VMware will continue to see strong growth for the next few years. So should you buy VMware? Yes — for now, the pros outweigh the cons.

Tom Taulli runs the InvestorPlace blog IPO Playbook, a site dedicated to the hottest news and rumors about initial public offerings. He also is the author of “The Complete M&A Handbook”[9]“All About Short Selling”[10] and “All About Commodities.”[11] Follow him on Twitter at @ttaulli[12] or reach him via email[13]. As of this writing, he did not own a position in any of the aforementioned securities.

Endnotes:
  1. VMW: http://studio-5.financialcontent.com/investplace/quote?Symbol=VMW
  2. CSCO: http://studio-5.financialcontent.com/investplace/quote?Symbol=CSCO
  3. DELL: http://studio-5.financialcontent.com/investplace/quote?Symbol=DELL
  4. HPQ: http://studio-5.financialcontent.com/investplace/quote?Symbol=HPQ
  5. IBM: http://studio-5.financialcontent.com/investplace/quote?Symbol=IBM
  6. MSFT: http://studio-5.financialcontent.com/investplace/quote?Symbol=MSFT
  7. CTXS: http://studio-5.financialcontent.com/investplace/quote?Symbol=CTXS
  8. RHT: http://studio-5.financialcontent.com/investplace/quote?Symbol=RHT
  9. “The Complete M&A Handbook”: http://goo.gl/aLNDk
  10. “All About Short Selling”: http://www.amazon.com/All-About-Short-Selling/dp/0071759344/ref=sr_1_1?s=books&ie=UTF8&qid=1302184310&sr=1-1
  11. “All About Commodities.”: http://www.amazon.com/All-About-Commodities/dp/0071769986/ref=ntt_at_ep_dpi_10
  12. @ttaulli: https://twitter.com/ttaulli
  13. email: mailto:tom@taulli.com

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