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When will VMware be bigger than EMC?

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Comment Does anyone else get the feeling that the relationship between VMware and EMC has some very rocky times ahead of it?

It took the brainiacs on Wall Street a couple of weeks to figure it out, but some analysts mustered recent research notes remarking on how cheap EMC looks. EMC's share price had been lodged at about $13.75 for as long as anyone cared to remember. But, since the VMware IPO chatter started, EMC's stock price has moved up past $20 per share, and now the analysts think it can go higher still on the back of the little virtualization maker that could.

Bear Stearns superstar Andrew Neff reckons that EMC's 80 per cent stake in VMware is worth about $14 per share. Add in some cash and the value of that plush office furniture bought during the go-go days, and you end up with a stock that should sit between $25 and $28, according to Neff.

(Neff also claimed that EMC may well discover the "next big thing" in IT, which makes a lot of sense. Does EMC even have a Second Life presence?)

Bear Stearns also went ahead and kicked its price target for VMware up to $106 per share. Why not, right?

Uh, so, I'm as much of a vodka-peeing, ice sculpture-loving capitalist as any of these guys on Wall Street, but it looks to me like some of these analyst fellas are threatening to ruin the party by pumping up VMware so high without thinking about any of the longer-term reality.

(Let's ignore for a moment that VMware's has of late quintupled its R&D costs and doubled its sales and marketing spend, while producing a profit - $34m off close to $300m in revenue in Q2 - only adequate for a proprietary software-making darling.)

We find a VMware with a market cap of $32bn - a figure rapidly approaching that of its big daddy EMC at $43bn.

Even with the analysts hyping EMC at the same time they hype VMware, the very real possibility exists that VMware's valuation will in fact jump right past EMC's. But that's all just paper nonsense in the end, right?

Well, I've heard rumors that VMware CEO Diane Greene and EMC CEO Joe Tucci already have a strained relationship. These are only rumors, mind you, and nothing more.

Even if things have yet to reach Tension Point, however, they almost certainly will in the coming months should VMware's stock keep soaring. Why should the flashy, nimble VMware remain controlled by a lumbering disk vendor like EMC, especially if VMware is mightier on paper than EMC? Why should Greene be bullied by five - out of six - board members with very strong - often direct - ties to EMC? Why should VMware be weighed down by EMC's baggage? Let's not forget that the company competes against VMware's strongest allies.

Why should VMware spend time worrying about doing more than its fair share of product tie-in work to keep its software running well with EMC hardware when it has new friends like Intel and Cisco to woo? And, lastly, why should VMware do all this dirty work on Wall Street only to see Tucci get a pat on the back for a job well done?

VMware's rocketing share price would seem to exacerbate any existing tensions. In addition, it may well create new tensions. Will Greene take any guff at all from Tucci and Co. when she's responsible for the storage vendor's Wall Street revitalization? I can't help but wonder if Greene doesn't eye that EMC CEO post.

The analysts are only dishing out what they believe and desire. But they and investors seem to be pushing these two companies - one locked inside the other - toward an uncomfortable if not untenable position.

It's nice for EMC to ride VMware's coattails getting attention and hefty amounts of software revenue. The storage vendor secured what looks like the bargain of the decade by purchasing VMware for a cool $600m. But I've got to believe that not spinning VMware out all the way will end up as a mistake.

Inevitably, Microsoft and a now well-funded XenSource will hamper VMware's money-sucking virtualization exercise. Once VMware stops doubling revenue ever year, you'd expect "the market" to suffer from a splash of reality and temper this rocket stock. I continue to think it will take about two years for that to happen, and am not sure the EMC/VMware marriage will survive the growing pains. ®

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