KUHN CAPITAL Wednesday, December 13, 2017
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Sunrise Battles Sunset

June 2

Despite most analysts' criticisms, we think Sun Microsystemís buy of StorageTek is, overall, a Good Thing.

Ever since powerful PCís began gnawing at the underbelly of Sunís venerable Unix-based Sparcstation line, the company has been looking for a raison d'etre.

It rode the networking wave by migrating into high-end server and related technologies that exploited its Unix expertise and proprietary chips, surfing away from the small, saturated graphics workstation market of its origins. But for a while now Sun hasnít found this newer ground very stable: sales have been flat to down over the past three years as the company continues to lose money.

Sure, buying StorageTek isnít a panacea. On the positive side, StorageTekís mass storage equipment industry is healthy. And the company generated a profit margin of about 9% in the most recent 12 months on revenues of about $2 billion with a clean balance sheet. We also believe Sun paid a fair-enough price for its target, a premium of about 17% over the companyís pre-close marketcap, or a P/E multiple of 21 based on trailing 12-month earnings.

Finally,from a broader strategic perspective, StorageTek brings Sun access to the important intersection between network devices like servers and the massive storage devices that increasingly hang on network nodes. So the deal moves Sun closer to a total network solution. And Sun gets a strong sales force that talks to desirable prospects for other Sun gear.

But on the negative side, StorageTek occupies the basement of the business --old tech tape drives as opposed to rapidly improving and perpetually cheaper disk drives. The result is flat StorageTek sales, so while Sun is buying profitablity, it's not getting growth. Last, we agree the deal isnít transformative, if only because StorageTek is about one-fifth Sunís size.

While that fact augurs well for post-deal integration (though morale issues may arise among StorageTek employees not used to taking orders from money-losing Sun managers), Sun is still left with questions about how to grow.

Maybe itís time to think about network switches, software and security too.


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