Tickers in this Article: NTAP, EMC, IBM, DELL, HPQ, LXK, XRX
Data storage is one of the best growth areas of technology today, but that does not mean that growth is going to follow a smooth and uninterrupted upward line. NetApp (Nasdaq:NTAP) has plenty of growth potential and could be on its way to being a legitimate numer two behind EMC (NYSE:EMC), but a major sales shortfall in July has investors bringing out the sharp knives. NetApp is going to get sent to the penalty box for a time, but investors who have some patience and appetite for risk should look at this as an opportunity to add shares.

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An Iffy Start to the Fiscal Year
NetApp's revenue for the fiscal first quarter missed the average analyst estimate and only just met the low end of its prior range. That is a big change for a company that generally beats expectations and the culprit was a surprising reversal of business in July. Still, revenue for the quarter rose 26% on a year-over-year basis and about 2% on a sequential basis.

Results were clearly hurt by declines in orders from government and financial customers - NetApp reported that revenue from government customers was up just 3% in the quarter (and down 27% sequentially).

Profitability, though, did not look as good on a GAAP basis. Gross margin dropped two and a half points, while reported operating income fell 1% on a greater than three-point drop in operating margin. Results were hurt in part by the integration of the Engenio acquisition from LSI (NYSE:LSI) - a deal that has brought revenue, good growth and OEM customers like Teradata (NYSE:TDC) and IBM (NYSE:IBM), but at the cost of margins. (For related reading, see A Look At Corporate Profit Margins.)

Good News, Bad News
One positive spin to NetApp's results is that absent the declines in federal government and financial services spending, growth in storage demand remains quite healthy. Moreover, while NetApp is still a ways away from seriously challenging EMC (and still must battle it out with the likes of IBM, Hewlett-Packard (NYSE:HPQ) and Dell (Nasdaq:DELL)), the company is emerging as a viable candidate to become number two.

Then again, ignoring the fed/fin problem may not be so smart. These verticals account for about a quarter of NetApp's sales and any prolonged weakness here will sap momentum from the growth story. This is not just a NetApp problem, though. EMC has less exposure to government customers, but high exposure to financial services. Similarly, companies like IBM, Lexmark (NYSE:LXK) and Xerox (NYSE:XRX) could find their revenue projections too high if this fed/fin weakness extends past the summer.

The Bottom Line
With the big pullback in the stock market, investors certainly have plenty of choices in the tech space. Aggressive investors could look to play a rebound in semiconductors or networking. By the same token, though, names like EMC, Apple (Nasdaq:AAPL), IBM (NYSE:IBM) and NetApp seem to offer the combination of upside growth potential and downside risk protection. (Learn how to successfully trade pullbacks and to avoid being crushed by "falling safes." For more, see Why A Falling Stock Is Not Always A Bargain.)

Longer term, data still looks like a really good place to be - and NetApp is a growing player with products that work well for the unstructured data types that are becoming more popular. Numbers for NetApp are likely heading lower after this quarter, and that is a risky scenario in which to step up and buy tech stocks. Still, there is value and growth potential here and aggressive investors should think about adding this name to their watchlists or portfolios.

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