Progress Still Slow on HP's Turnaround Story
Hewlett-Packard is setting and meeting targets under CEO Meg Whitman, but there is clearly a long road ahead for the firm, says Morningstar's Michael Holt.
Hewlett-Packard is setting and meeting targets under CEO Meg Whitman, but there is clearly a long road ahead for the firm, says Morningstar's Michael Holt.
Hewlett-Packard (HPQ) delivered third-quarter results that exceeded its initial forecasts and met the revised targets it provided two weeks ago. The headline numbers are uninspiring, with total revenue of $29.7 billion, down 5% year over year, and profits tanking on a $9.2 billion noncash write-down of goodwill related to the 2008 acquisition of EDS. Nonetheless, HP delivered adjusted earnings per share of $1.00, above the $0.94-$0.97 range it targeted in May. Refusing to succumb to a challenging demand environment in Western Europe, China, and the United States, HP remains on track to deliver $4.05 in adjusted EPS during fiscal 2012, and our $40 fair value estimate is unchanged.
As expected, HP's segments with significant consumer exposure suffered a severe drop in revenue. Sales in the personal systems group fell 10% year over year on weak demand for PCs, led by a 12% drop in consumer revenue. A drop of this magnitude was widely expected after the results that Dell reported one day earlier, but this remains a troubling rate of decline and there is little evidence to suggest that HP is executing well enough to compete in this hyperaggressive pricing environment.
The imaging and printing unit saw revenue fall 3% from the prior-year period, with consumer hardware units falling 23%. On a positive note, commercial hardware unit shipments climbed 4% during the same period, suggesting that HP is beginning to offset some of the secular declines in consumer printing with some stability in commercial opportunities. Supplies revenue (toner and ink) fell 3%, but HP warned that there was a buildup in channel inventory that will hinder the results of future quarters.
The software division also stands out with its failure to deliver growth. Nearly a year since the $11.7 billion acquisition of Autonomy, sequential revenue growth was flat at just under $1 billion for the quarter. This is a far cry from the growth trajectory that HP must have expected to justify the steep price tag of this acquisition. Autonomy has good technology and is not a total write-off, but many more quarters are likely to pass before much of the firm's potential is tapped under its new leadership.
The services segment remains in the middle of a multiyear turnaround and is struggling to deliver growth. Results look bleak in the shadow of the unsustainable operating margin levels of several years ago. Nonetheless, with an 11% non-GAAP operating margin this quarter, HP continues to signal that margins are no longer in free fall. Management reaffirmed that it is targeting services margins of above 10% for the current fiscal year.
HP is setting and meeting targets, a critical step that was missing under the prior regime, but there is clearly a long road ahead. CEO Meg Whitman said it will take years to complete the organizational and structural changes needed to improve HP's execution. In October, investors will receive an update on HP's fiscal 2013 goals. The company's ability to reaffirm its fiscal 2012 guidance, despite a weak demand environment that has caused competitors like Dell to derail, is helping HP regain its credibility with investors. A projection of earnings growth going into fiscal 2013 could be a positive catalyst for a stock that is priced for perpetual declines.
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