Start Buying Western Digital Corporation

Western Digital Corporation (NasdaqGS: WDC) 11/7/2012 Last Price: $37.04

VIEW:  START BUYING

Western Digital designs and manufactures hard disk drives used in personal computers, consumer electronics, branded external hard drives, and enterprise applications. With the acquisition of Hitachi’s hard drive unit, the company will become the world’s largest hard drive manufacturer by both unit volume and revenue.

Sector: Technology                                                                         Industry: Data Storage Devices

Highlights: 

Western Digital Corp. (NASDAQ: WDC), Irvine, Calif., is a global provider of products and services that empower people to create, manage, experience and preserve digital content.  The stock closed yesterday’s trading session at $37.04. In the past year, the stock has hit a 52-week low of $24.96 and 52-week high of $45.94. Technical indicators for the stock are bullish for the short term and the company’s near future outlook is promising.

GROWTH AND BALANCE SHEET

Revenues in the latest quarter came in at $4B, or up 50% year-over-year. Earnings per share was at $2.36 beating consensus by $0.04. EBITDA, EPS and Book growth rates have far outpaced revenue growth rates, that is to say the company is not only getting larger, but also far more profitable. The free cash flow for fiscal 2012, which ended in June, was $2,350 on revenue of $12,478. The total Debt/Equity of 26.48% is acceptable for the industry. The net income growth from the same quarter one year ago has significantly exceeded that of the S&P 500 and the Computers & Peripherals industry.

VALUATION

Western Digital is a well managed company that pays a decent dividend. Western Digital is  severely undervalued. WDC has a PEG ratio of 0.87, at the industry average. The P/E of 4.87 is extremely attractive and well below the industry average. The stock is currently trading below its fair value of $38. The beta of 1.42 implies high volatility of the stock with respect to the S&P 500. The company has demonstrated a pattern of positive earnings per share growth over the past two years. We feel that this trend should continue.

RECOMMENDATION for next 6 months: We initiate our coverage with START BUYING. The company has demonstrated a pattern of bullish technical signs, the earnings performance and very cheap valuation offers a positive feeling. Shares are up 19.77% year to date as of the close of trading yesterday. Our overall score for WDC is 6.92

For trading we suggest:

• Buy the January 13  call with a strike of 40.00 priced at $1.11 per contract
• Sell the January 13   call with a strike of 45 priced at $0.26 per contract
• Net Debit to start: $0.85
• Maximum risk: Net debit

NEWS and CALENDAR

Friday November 2, 2012 – Form 10-Q for WESTERN DIGITAL CORP

Tuesday October 23, 2012 – Western Digital Earnings Call Insights: Macro, Cyclical and Secular, PC Color in Product Mix

WDC Strengths

• Robust Revenue Growth
• Strong Reputation
• Increasing Demand
• Digital Media

WDC Weakness

• Cloud Storage
• Volatile Industry

Stock valuation model

The model rates stocks from 1 to 10, with 10 being the best using a system of advanced mathematics to determine a stock’s expected risk and return. I am using different fundamental and technical factors in order to rank a stock.

Intrinsic value of the stock

Investors should buy stocks selling at a discount to their intrinsic value, and then patiently wait for the fair value of their investments to be realized.

WDC’s intrinsic value is $38.00 the current price is $37.04, the stock trades very close to its fair value.

Financials

The financial health of the company the higher the better, we evaluate all the financial ratios of the company.

Sentiment

Investor’s sentiment for the stock

Analyst ratings

The model assigns a value according to analyst’s recommendation for the stock.

Earnings Consistency

We are searching for EPS numbers that are better than the previous year’s. One dip is allowed, but the following year’s earnings should be higher than the previous year. WDC’s annual EPS before extraordinary items for the last 5 years (from earliest to the most recent fiscal year) were 3.84, 2.08, 5.93, 3.09, 6.58, this type of earnings action is not  favorable for our model.

Total Debt/Equity

The company must have a low Debt/Equity ratio, which indicates a strong balance sheet. The Debt/Equity ratio should not be greater than 20% or should be less than the average Debt/Equity for its industry

WDC’s Total Debt/Equity of 26.48% is just higher than our target.

EPS This Quarter VS Same Quarter Last Year

The EPS growth for this quarter relative to the same quarter a year earlier is above the minimum 15% that this model likes to see for a “good” growth company. Stocks with improving earnings are worthy of your extra attention.

WDC’s EPS growth for this quarter relative to the same quarter a year earlier is 103.00% well above our target.

Annual Earnings Growth

This stock valuation model looks for annual earnings growth above 12%, but prefers higher than 20%.

WDC annual earnings growth rate over the past five years is 21.40%, above our target growth rate.

Current Price Level

Traders should keep an eye open for stocks that are trading within 10% of their 52-week highs, as it is likely to continue in its upward trend.

WDC’s 52 week high is $45.94 current price is $37.04, is 23% below the 52 week high.

P/E Ratio

The Price/Earnings (P/E) ratio, based on the greater of the current PE or the PE using average earnings over the last 3 fiscal years, must be “moderate”, which in this model states is not greater than 15. Stocks with moderate P/Es are more defensive by nature.

The company has a P/E ratio of 4.87 the average industry P/E ratio is 17.50 and is also well below the S&P 500 P/E ratio of 16.30

Insider Ownership

When there is strong insider ownership which we define as 10% or more, management is more likely to act in the best interest of the company, as their interests are right in line with that of the shareholders.

Insiders own 10.58% of WDC stock. Management’s representation is large enough. This does satisfy the minimum requirement; companies that pass this test are more attractive to our valuation model.

Technical Analysis

The model is using several technical indicators (MACD, RSI, MFI, OBV, position Indicators) to forecast the trend of the stock for 6 and 12 months, and assign a value.

WDC stock has been showing support around $33.8 and resistance in the $39.6 range. WDC stock formed a bullish Gap Up signal. The Commodity Channel Index is Bullish. Our indicators give Bullish signals for the short term and for the intermediate term on WDC.