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By Erik Kobayashi-Solomon | 08-10-2010 11:03 AM

HP Shares Look Cheap in Wake of Hurd's Departure

The CEO's departure will be a setback for HP but the firm is strong enough to carry on without him according to Morningstar's Michael Holt.

Erik Kobayashi-Solomon: Hi, I'm Erik Kobayashi-Solomon, Co-Editor of Morningstar's OptionInvestor. Today it's my great pleasure to welcome Michael Holt, who is Senior Equity Analyst on the technology team covering hardware companies.

Mike, thanks for coming in today.

Michael Holt: Thanks for having me.

Kobayashi-Solomon: So yesterday I wrote an option strategy hoping to take advantage of the decline in Hewlett-Packard's share price on the departure of Mark Hurd, and I wanted to ask you a little bit about this. Right now, you've made the point that valuation metrics look really attractive for HPQ. Can you tell me a little bit about that?

Holt: Sure. Our fair value estimate is at $55. So now after the pullback yesterday, we're looking at almost a 25% margin of safety.

Kobayashi-Solomon: Right. We are about $42.

Holt: Exactly. And a couple of the other metrics are interesting as well. We've been looking at EV to EBITDA, and we're trading it like six times EV to EBITDA. Some of the other competitors in the industry are EMC, Cisco trading at 11 times, so it looks attractive there.

Kobayashi-Solomon: It does look attractive.

Holt: And also, just even P/E multiples. So at 10.5 times trailing earnings, 9.5 times forward earnings.

Kobayashi-Solomon: Yeah, certainly it does sound attractive. The thing though about valuation metrics is that they can be backward-looking, so maybe a great EV to EBITDA, but if they can keep that EBITDA going, then suddenly the valuation looks expensive.

Hurd, I think was instrumental in kind of setting a new course for Hewlett-Packard. Do you think that with his departure that they'll still be able to grow that revenue stream, to grow that income stream?

Holt: His departure is certainly a setback and that's why investors are reacting, but the strategy and foundation he put into place are going to survive his departure. And I think they have strong interim leadership, they were swift and decisive getting that set up, that's going to calm the waters a little bit. They also have very strong prospects in all their business units. And I think that's really what investors need to look at, not who is running the ship, but what the prospects are for the enterprise services, hardware, their printing segment. There's a lot of recurring revenue in there that's very stable in the short to medium term.

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