Monday, June 1, 2009
(Cont'd from above)...

Jim (cont'd):   


Jim:       When a company announces a takeover, when it decides to buy another company… and when it pays with both cash and more importantly, stock… everyone in the market, every professional expects that the acquirers price, the acquirers stock will get walloped… you can’t issue stock without that happening… that is just how it works… when you print more stock in order to acquire another company… people known as arbitragers, who make little difference, who gain little differences… they move in with a simple game plan… they short or bet against the stock of the buyer, and go long, that is Wall Street jibberish for buy, the stock of the takeover target… that creates a tremendous amount of selling pressure that almost always pushes the shares of the acquirer lower… do you need to the mechanics of arbitrage… you just need to know, that when you issue stock your stock is supposed to go down… okay, it just always is.

But do not tell NetApp, Inc. (NTAP), the old Network Appliance NTAP… because I do not think that it got the memo… starting a week and a half ago, Network Appliance should have watched its stock be taking out to the woodshed… just be annihilated, whipped, punched, cut, chopped to pieces… but instead it just went higher and higher… and still higher 6.1% today to be exact… I have been dazzled by this… I frankly cannot believe this move… it just should not be happening… I do not get it… stocks that go up when they are supposed to go down… well to me that is the clearest signal… it is the bell… you have probably found a winner… a bell literally goes off in my head when this happens… because it happens so infrequently.

If you had told me two weeks ago, that Network Appliance was going to be worth a second glance… I do not know if I could have taken you seriously frankly… even though technology stocks have led the market higher ever since the bottom in a rally that has been taken more and more of the smaller tech companies, that did not attract much attention at first… you know that I have been pushing AMD, the On Semi started moving, the Brocade… Network Appliance is not that kind of tech… I think boring, I think consistent… but the furthest thing from what would attract your attention… and certainly not sexy… this is a storage company… selling its systems to both ordinary companies and service providers… with 8% market share in the overall external disk storage business… the company competes with some pretty amazing competitors… EMC, IBM, Hewlett Packard a stock that I own for ActionAlertsPlus.com, my charitable trust, and wish that I were bigger in… Hitachi, and the large and not very formidable Dell, which is going up even though it reported a bad quarter… that to me made Network Appliance a total snooze fest… and not even in a space where the competition is light and easy.

When I say storage, you have to think of this as a giant warehouse… like one of the orange ones, those sheds alongside the road… except these hold data… and then on May 20th, after reporting a decent .08 cents earnings beat… which was not surprising, as Network Appliance either met or exceeded the streets expectations for the last 8 quarters… the company announced that it was buying Data Domain… Data Domain, what the heck is that… for $1.5B, paying a 40% premium to where the stock had closed earlier that day… paying $11.45 a share in cash, along 47 million new shares of its stock for Data Domain… like I said before, when that happens… the acquirers stock almost always takes a hit… I mean, think about it… you issue 47 million share, you have got to find a home for those shares… and that home is usually 2 to 3 points lower than where the stock is the moment the deal is announced.

Plus, a straight forward combination the companies would have eaten .08 cents out of the combined companies earnings per share this fiscal year… it is not even additive to earnings… on top of that, Network Appliance is with $3.50 a share of cash on its balance sheet, a takeover target… or at least it was until this deal… but instead of selling off, Network Appliance after opening slightly lower the next day, closed above where it had been before the deal was announced… when its stock was at $17.34... amazingly, and again I have got to stress… this is just such a huge tale… it is a sign, a billboard that says buy me… this stock is up now more than 3 points from that level… and it has not even looked back.

When the deal was announced… 29 brokers covered the stock… 20 rated it a hold… 8 had buys… one said sell… since then two of the analysts have upgraded the stock, the sell became a hold, a hold became a buy… the new buy recommendation came along today, which is why Network Appliance moved so much higher… and there is still a lot more analysts to convert… I think that they are going to convert them.. .not only did the analysts become more bullish who were negative… but the shortagers, the bet against the stock, has dropped by over 30% since this takeover was announced… I have got to tell you, this is just game break.

How do we explain this anomaly… I think this is a case where the takeover makes so much sense… it could dramatically improve the fortunes of Network Appliance… investors suddenly became interested in the stock… interested enough to offset serious downward pressure on its sell price… and I think that the people buying this one… I think that they have got it right… Network Appliance’s core storage market has been weakening for years… its product margins have been eroded to a 7 year low… its growth prospects were minimal before this take over… especially going up against such tough competition… but this brilliant move of buying Data Domain, which is the leading pure play in a thing called de-duplication technology… the fastest growing area in storage… a company that more than doubled its sales in each of the past two years.. this dog, Network Appliance, gave itself new life.

Data Domain’s products all seamlessly integrate with existing backup systems… so NTAP can go from being a technological laggard in the back of the storage pack to a leader… with some of the hottest tech in the business that it can quickly distribute to its existing customers… Data Doman should also help Network Appliance climb out of its downward spiral of margin erosion and revenue declines… the company had been getting by on a restructuring plan, reducing its head count by 5% last quarter… but no one is excited when you just manufacture your upside surprise with cuts… with Doman Data, Network Appliance can once again have the one thing that big institutional investors crave more than anything else… growth… pure undiluted revenue growth…. they crave that like nicotine and there is no patch to help wean you off of it.

After the deal closes, the company is expected to increase earnings per share at a 20% compound annual growth rate from the 2009 calendar year, thru 2012... even after its big run… Network Appliance still trades at just 14 times earnings… but there are money managers who would be willing to pay twice that for 20% earnings growth… no wonder the stock took off… I would wait for a pullback if you can get one… the stock is cheap, even here… especially given the girth of still cheap tech stocks after the historic run.

Now, tonight we have learned that EMC has just put in a bid for Data Domain at a higher price than NTAP is currently paying… that alone could bring the price of NTAP down… as people fear that it will have to overpay for Data Domain… but it could also force the arbitragers to buy back the NTAP they sold.

Here is the bottom line…

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