Motley Fool: Western Digital hurt by cautious optimism

SUNDAY, FEB. 20, 2011

What will it take for hard-drive maker Western Digital (NYSE: WDC) to get some market respect?

When the company released its third-quarter earnings report, exceeding expectations, its shares jumped 5 percent. But then management made a few guarded comments about the coming quarter: There’s some excess inventory floating around in the PC manufacturers’ pipelines, and it expects a correction in the fourth quarter. That hurt, sending shares back down.

That might be understandable if Western Digital were an overvalued high-flier. But along with sector rival Seagate Technology, Western Digital has been a mouthwatering value play for a long time. The market expects SSD technology as presented by STEC and SanDisk to make hard drives obsolete, and it was a mature low-growth market with thin margins to begin with.

Thus, Western Digital’s cautious market outlook is simply a responsible approach to take. Wouldn’t you rather invest in honest management teams than spin masters?

The cautious outlook may have been too conservative. Tablet computing should be hurting the hard-drive market because those laptop-replacement gadgets tend to ship with memory-based storage. But that may not have happened yet, as gross margins have been improving at Western Digital.

Western Digital deserves a spot on your watch list, if not in your portfolio. (The Fool owns shares of it.)

Ask the Fool

Q: How important to a company is its stock price? – N.P., Mobile, Ala.

A: It matters, but perhaps not in the way that you think. Companies collect their money when they first sell their shares to the public (via an “initial public offering,” or IPO). Then those shares are traded between investors.

When you buy shares of McDonald’s through your brokerage, you’re buying them from an investor who wants to sell them. (It’s like baseball cards: The companies that print them get their money when the cards are sold, and after that they’re traded between owners, with their value rising or falling.)

If McDonald’s stock price falls significantly, so will its total market value. A competitor might look into buying the company, whether McDonald’s likes that or not. Also, low prices limit a firm’s flexibility. When McDonald’s price is high, if it tries to buy another company with its stock, the acquisition will require fewer shares. And if McDonald’s wants to issue a few more new shares to generate more money, it will get more for each share when the price is high.

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My smartest investment

From 1978 to 1981, my wife and I spent $19,000 on 900 shares of a local community bank in Oregon. By 2001, the stock had split five times and had paid out stock dividends and $99,000 in cash dividends. Pleased, we gave 3,500 shares to family members. In 2000, the bank merged with Umpqua Holdings. Since then, we have received tens of thousands of dollars in cash dividends and own tens of thousands of shares, worth hundreds of thousands of dollars. – J.W.B., Oregon

The Fool responds: This story is a great reminder that there are often terrific investments available right in our own backyards. You can also run across promising investment ideas by paying attention at your workplace or in your daily life. Is a new kind of equipment or service transforming your industry? Are many of your friends now ardent video game enthusiasts? Is a local chain opening in many new locations? Not every promising idea will remain promising after you research it, but some investigation might pay off.


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