NetApp Inc. (NTAP, Financial), a network storage solution company, posted dismal fourth-quarter fiscal 2015 results, failing to match up to analysts' expectations on the top and bottom lines. Mr. Market’s response led to the steepest decline in three years, with the stock having lost 20% year to date. With such a massive decline, is this an opportunity for investors to buy? Let’s take a look.
Fourth-quarter results
Hardware Maintenance & Other Services segment was the only segment that outshined year ago's quarter performance, registering sales growth of 5.6% year over year to $399.8 million. On the other hand, Product revenues decreased 12.4% year over year to $913.4 million, and Software Maintenance revenues were almost flat at $227 million. As a result, NetApp’s consolidated revenue declined 6.6% year over year to $1.54 billion, missing analysts’ expectations by $50 million.
On the back of a lower revenue base and Product and Software maintenance gross margins, consolidated gross margin contracted 240 basis points, or bps, versus the year-ago quarter to 61.7%. Also, operating expenses increased 300 bps and adjusted operating margin contracted 530 bps to 11.5%.
As a result of lackluster sales and margin pressures, earnings came in at $0.47 per share, versus $0.71 per share in the year-ago quarter, missing the Street’s expectation by $0.07 per share.
The storage solutions company exited the quarter with cash, cash equivalents and investments of $5.33 billion, and a long-term debt balance of $1.49 billion. NetApp repurchased shares worth $246 million and paid a dividend of $51 million during the quarter.
Fixing the problem
NetApp has been pruning headcount since 2013, reducing the same by 900 in 2013 and 600 in 2014. The company has disclosed that it will be further reducing staff by 500 during fiscal 2016, and this is expected to yield $25M-$35M worth of charges.
While the new Clustered ONTAP solution from the company is finding favors with new customers, the large existing customers on ONTAP were deferring migration or upgrades until feature parity with the traditional version of ONTAP is achieved. This concern has been addressed in the latest version –Â clustered ONTAP 8.3. One of the largest customers of the company is now planning to migrate to clustered ONTAP.
Once existing customers start migrating to clustered ONTAP, this will drive growth in the long run. This includes direct as well as channel partner-serviced customers. So NetApp will be investing in channel partner training for handling the migration to clustered ONTAP.
Hybrid cloud product
Cloud is the biggest transitional force in the industry and for many use cases as it provides flexibility, economics and functionality unmatched by on-premise solutions. NetApp’s hybrid cloud solutions weave together disparate data elements into a single integrated architecture, and the initial customer feedback has been encouraging.
Also, during the fourth quarter, the company released updates to OnCommand Cloud Manager and Cloud ONTAP, offering customers new capabilities to speed business innovation and IT responsiveness.
Strong balance sheet
NetApp has a strong balance sheet. Additionally, during fiscal 2015, it generated free cash flow of $1.1 billion. Whereas the storage company may not have stellar growth rate, it still has a pristine balance sheet. The company can use any dips in the stock to buy substantial amounts of stock and also return value to investors through dividends.
During the quarter, the company bumped up the dividend by 9% to $0.18 per share, offering a dividend yield of 2.3%. Also, during fiscal 2015, net yield including buybacks and dividends stood at over 12%, which is solid.
NetApp completed its $3 billion repurchase program a year ahead of schedule. This was followed up with a fresh authorization of $2.5 billion of repurchases by the end of May 2018, with the first $1 billion of repurchases expected to be completed by the end of May 2016.
With such a strong balance sheet, M&A for driving growth cannot be ruled out.
Final words
NetApp exited fiscal 2015 on a depressing note as it failed on revenue and earnings estimate. However, the company has a strong balance sheet and has been returning cash to investors at regular intervals. Companies with a strong balance sheet and ability to generate free cash flow mostly always bounce back.
So, this dip provides an opportunity load up on NetApp for long-term gains.
