After taking a fresh look at HP (HPQ) and incorporating the firm's fiscal third-quarter earnings, we are raising our value estimate to $23 per share from $22. HP's navigation through recent industry turbulence is commendable; however, potential long-term headwinds in high-uncertainty HP's core operating segments provide the foundation for our no-moat and negative moat trend ratings, which we maintain. We remain skeptical of HP's long-term growth strategy to adequately offset challenges in core business segments. With the shares trading slightly higher than our fair value estimate, we caution investors to wait for a larger margin of safety before investing.
HP's third-quarter results exceeded guidance by delivering year-over-year revenue increases of 14% for personal systems and 11% for printing. Notebooks and desktops both grew units by 7%, and operating profits for personal systems increased to 3.9% of revenue. The personal systems segment enjoyed higher average selling prices and a favorable product mix as HP continues to gain share in premium computers. The printing business' revenue growth came at the sacrifice of operating margins, which decreased 130 basis points to 16.0%. Operating margins were dragged down by investments in the A3 and 3D printing markets. Consolidated gross margins declined year over year to 18.4% and operating margins came in at 7.4% for the quarter.
Management increased its guidance for fourth-quarter earnings per share and said shareholders should expect a return up toward 75% of HP's free cash flow. We expect sequential top-line growth for both business units with operating margin compression. For fiscal 2019, we expect a considerable slowdown with marginal organic revenue growth as HP's competitors respond with new PC products and printing services becomes more cost-competitive.
|Morningstar Premium Members gain exclusive access to our full analyst reports, including fair value estimates, bull and bear breakdowns, and risk analyses. Not a Premium Member? Get this and other reports immediately when you try Morningstar Premium free for 14 days.|
Mark Cash does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.