VMware’s solo act should sing

VMware expects subscription revenue to exceed 40% of its total revenue by 2025

After more than 14 years on the public market, VMware will finally be on its own. Investors should enjoy its parting gift.

A monthslong effort to spin off the software maker from Dell Inc. should be completed Monday with the payment of an $11.5 billion special dividend to VMware shareholders. Dell began evaluating the spinoff last year—about four years after its acquisition of EMC also gave it ownership of the company that pioneered the use of so-called virtualization software used by businesses to squeeze more performance out of their networks. VMware went public in 2007 but was still majority-owned at the time by EMC.

MUMBAI, MAHARASHTRA MAY 21: CEO of VMware, Patrick P. Gelsinger clicked during a photo shoot in Mumbai. (Photo by Milind Shelte/The India Today Group via Getty Images) ____ Silicon chip file image: istock (Milind Shelte/The India Today Group via Getty Images / Getty Images)

VMware has therefore long been saddled with a liquidity discount as investors have been concerned about the company’s ability to sell outside the large enterprise ecosystems of its owners. But the prospect of full independence hasn’t yet won investors over either. The stock is up only about 3% from its level last year when The Wall Street Journal first reported Dell’s interest in considering the spinoff. And it has slipped about 2% since Dell announced its plans in April of this year. The S&P Software and Services Group has gained 16% in that same time.

At its current multiple of 22 times forward earnings, VMware also would fall into the bottom third of that group in terms of valuation, which currently averages an earnings multiple of about 33 times, according to FactSet. The company hasn’t been without its challenges in recent years. Slowing revenue growth in 2015-16 caused investors to worry whether VMware still had a place in a corporate tech world increasingly dominated by cloud-computing services. Growth slowed again last year as the onset of the pandemic affected some of the company’s on-premise software business that was particularly vulnerable to disruption from enterprise customers sending workers home en masse.


About two-thirds of VMware’s revenue still comes from the more traditional business software segments of licensing and maintenance services. But the company has been steadily shifting to a cloud-based model. At an analyst meeting last month, VMware said it expects subscription revenue to exceed 40% of its total revenue in its fiscal year ending in January 2025. That compares with a 25% mix projected by Wall Street for the current fiscal year. Getting large, existing customers to go along with that shift will be key, but Tyler Radke of Citigroup noted that VMware has a "strong product road map" that should enable an easier transition for those customers.

Dell Technologies Inc., is close to a deal to sell its Boomi cloud business to private-equity firms Francisco Partners and TPG, according to people familiar with the matter, part of a larger reordering of the PC and data-storage giant’s business.

The stock might still see some near-term selling pressure from the spinoff. Mark Moerdler of Bernstein says there is a "strong possibility" that many shareholders may sell once they receive their portion of the dividend. But he added that such a move would create a "short-term buying opportunity" before the stock rebounds. Independence doesn’t come without some growing pains.