VMware Inc.’s (VMW) fourth quarter 2010 earnings of 25 cents a share missed the Zacks Consensus Estimate of 29 cents in spite of strong revenue growth that handily surpassed the Zacks estimate. Shares dipped $4.17 (4.75%) in after hours trading.
Operating Performance
Earnings (excluding one-time items) increased 56.3% year over year and 19.0% sequentially to 25 cents a share. The year-over-year growth was primarily attributed to strong revenue growth in the quarter.
In fiscal 2010, earnings increased 58.0% year over year to 79 cents, missing the Zacks Consensus Estimate of 95 cents.
Net income of $109.1 million increased 66.8% year over year from $65.4 million in the fourth quarter of 2009. Net margin was 13.5%, up from 10.8% in the fourth quarter of 2009.
In fiscal 2010, net income was $439.9 million, up 119.3% year over year, with a net margin of 15.4% compared with 9.9% in fiscal 2009.
Gross profit increased 38.0% year over year and 17.9% sequentially to $734.2 million. Gross margin increased 40 basis points (bps) year over year and 70 bps sequentially to climb to 87.9% in the fourth quarter.
In fiscal 2010, gross profit increased 41.7% year over year to $2.49 billion, with a gross margin of 87.2% compared with 86.9% in fiscal 2009.
Total expenses increased 23.0% year over year and 3.3% sequentially to $640.4 million in the fourth quarter 2010. For fiscal 2010, total expenses increased a substantial 131.4% over the year-ago period to $2.35 billion.
Operating income (excluding one-time items) leaped 82.2% year over year and 22.5% sequentially to $158.2 million in fourth quarter 2010. Operating margin was 18.9% in the quarter compared with 14.3% in the year-ago quarter and 18.1% in the sequentially preceding quarter. Strong revenue growth and strict cost control were the primary drivers for this upside.
In fiscal 2010, operating income increased 115.1% year over year to $510.5 million, with an operating margin of 17.9% compared with 11.7% in fiscal 2009.
Revenue
Revenues increased 37.4% year over year (38.0% at constant currency/cc) and 17.0% sequentially to $835.7 million, well above management’s guided range of $790.0 million to $810.0 million. The upside was primarily driven by strong growth from the license and services segment.
License revenues were up 38.8% year over year and 23.0% sequentially to $422.3 million. Services revenue increased 36.0% year over year and 11.4% sequentially to $413.3 million.
U.S. revenues increased 39% year over year to reach $439.0 million. International revenues likewise booked a growth of 35% year over year to $396.0 million.
In fiscal year 2010, revenues increased 41.2% year over year to $2.86 billion. License revenues were up 36.1% year over year to $1.40 billion. Services revenue jumped 46.4% year over year to $1.46 billion.
U.S. revenues soared 40.0% year over year to $1.5 billion in fiscal 2010. International revenues grew 43.0% year over year to $ 1.4 billion.
Balance Sheet and Cash Flow
As of December 30, 2010, cash and cash equivalents (including short-term investments) were $3.32 billion compared with $2.91 billion at the end of September 30, 2010.
Deferred revenue (including current portion) was $1.86 billion compared with $1.51 billion at the end of September 30, 2010.
Cash from operations increased significantly to $406.6 million from $196.7 million in the prior quarter and $283.7 million in the year-ago quarter. In fiscal 2010, cash flow from operations was $1.17 billion compared with $985.6 million in fiscal 2009.
Free cash flow increased to $406.5 million in the fourth quarter of 2010 compared with $232.4 million in the third quarter of 2010 and $258.5 million in the prior-year quarter. In fiscal 2010, free cash flow was $1.20 billion compared with $839.8 million in fiscal 2009.
Guidance
Management provided robust guidance for the first quarter 2011. VMware expects total revenue to be in the range of $800.0 million to $820.0 million, reflecting an increase of 26.0% to 29.0% from $634.0 million reported in the first quarter of 2010. The Zacks Consensus Estimate for the first quarter was at $784.0 million at the time the company reported results.
For fiscal 2011, VMware expects total revenue to be in the range of $3.45 billion to $3.55 billion, a growth of 21% to 24% over the prior year.
License revenues in fiscal 2011 are expected to grow within a band of 14% to 19%. Management also expects license revenues to grow at a similar clip in both the second and third quarters of fiscal 2011.
VMware, however, expects no margin expansion for fiscal 2011. Non-GAAP operating margin for the first quarter is expected to be in the range of 27% to 28%, and the full-year 2011 to come in the 28% – 29% range. Both the quarterly and full year outlook show flat margin growth year over year.
Management did not provide any earnings per share guidance for first quarter 2011. The Zacks Consensus Estimate is currently pegged at 36 cents for the quarter.
Our Take
We have a Neutral rating on VMware over the long term (for the next 6 to 12 months) primarily due to tough competition from the likes of Citrix Systems Inc. (CTXS), Microsoft Corporation (MSFT), International Business Machines Corporation (IBM) and the privately held PARALLELS International GMBH.
Moreover, management expects limited margin expansion and declining license growth that could act as a potential headwind for the stock. However, we believe VMware has a strong product pipeline and a loyal customer base that would safeguard profitability for the company.
Currently, VMware has a Zacks # 2 Rank, which implies a Buy rating on a short-term basis.
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