- Hewlett Packard has reported its fourth quarter and full-year results after about a month since the Printing and PC business split from the Enterprises Services arm.
- The results were mostly negative with huge revenue declines in all segments with the exception of the Enterprise Hardware segment whose revenue was up 2%.
- What should long-term HP investors do?
For long-time HP Inc (NYSE:HPQ) investors pondering their investment roadmap, it’s easy to get into a conundrum of whether to hold shares of either the PC, Printer, and Server company HP Inc., or those of the Hewllet Packard Enterprise (NYSE:HPE), or both. After all, HP stock sported a dividend-adjusted return of more than 100% before the split, more than double the S&P 500 gain of 48% over the timespan.
HP vs. S&P 500 3-Year Share Returns
Source: CNN Money
But those kinds of gains might not be sustainable over the long-term. Investors should remember that HP stock made those kind of gains despite revenue plunging almost 10% over the period while free cash flow plunged close to 30%. HP stock made those gains mainly on the hope of a fruitful turnaround--current indications, however, are that HP’s turnaround has been anything but successful.
It’s about a month since HP split itself into two giant companies with profiles that look something like this:
Source: Hewlett Packard
Looking at HP’s latest results, it becomes clear that virtually the whole company, including the enterprise services division that has become HPE, are in deep trouble. HP reported Q4 2015 consolidated revenue of $12.66 billion, down a jaw-dropping 14% Y/Y and $200 million below consensus. Operating income fell 18% to $1.16 billion.
The different segment fared as follows:
- PC/Printing--PC revenue was down 14% to $7.7 billion with an operating margin of 3.8%. Printing revenue was down 14% to $5 billion with an operating margin of 17.4%. Meanwhile Commercial PC revenue was down 15% Y/Y while Consumer PC revenue was down 12%. Desktop unit sales were down 17% while notebook unit sales were down 5%. Printing units were down 17%.
- Enterprise Hardware--HP’s Enterprise Group which consists of hardware and related services reported a 2% revenue growth to $7.4 billion with a 14% operating margin.
- Enterprise Services--revenue fell 9% to $5 billion with an 8.2% operating margin. App/business services was down 5%, while IT outsourcing declined 11%.
- Software--revenue was down 7% to $958 million with a 30.1% operating margin. License revenue was down 6%, Support revenue was down 9%, professional services were down 3% while SaaS revenue declined 2%.
- Financial Services--revenue declined 11% to $802 million with a 10.8% operating margin. That was despite a 2% and 4% increase in portfolio assets and financing volume, respectively.
HP Inc stock have plunged 10.3% since that report while those of HP Enterprise are up marginally by 1%. The two companies are almost evenly matched revenue-wise, with HPQ finishing the year with revenue of $57.3 billion vs. $53 billion for HP Enterprise.
Quite frankly nothing seems to be going right for either company, though it depends on how you cut those results. Although most of Wall Street has soured on the company after the latest round of results, there are still a few notable optimists out there. Credit Suisse’s Kulbinder Garcha has this to say about HP Inc:
“We believe that HP Inc. has a solid franchise and a multi-faceted strategy to offset secular pressures in the Printing and PC end-markets. Specifically, we believe that as we gain visibility on printing supplies, the company can attain modest low single digit Operating Income growth. Combined with an extremely inexpensive valuation and significant cash return, we initiate with an Outperform rating and see ~60% upside potential.”
Now that’s a lot of upside for a business that just reported a top-line decline of 9%.
Meanwhile Needham has this to say about HPQ:
‘‘Our upgrade on 11/2 was predicated on the notion that valuation (then having closed in the low/mid $12 range trading at a steep discount to peers) was compelling enough to outweigh even known headwinds facing both PC’s and Printing, especially given the attractiveness of a 3-4% dividend yield. However, as some of the valuation argument has played out, we believe further upside will require real improvement in the underlying business. The sharp turn of the Printing market (and delay in improvement that results) in just 2-3 months since last speaking with the Street warrants caution given the segment’s roughly 80% contribution to operating profit dollars.’’
Deutsche Bank’s Sherri Scribner remains bullish on HPQ with a Buy rating:
"While we do not expect HPQ to be immune to [market] trends, we believe the company can
outgrow its peers and end markets, driven by market share gains and a focus on profitable growth opportunities. A recovery in supplies is a key driver of free cash flow strength longer term, and while we were disappointed by the push out of this recovery to later in FY-17, we believe [management] has the right tools in place to stabilize this business."
Analysts are not so sanguine about HPE’s prospects, especially after the company shuttered its long-suffering cloud operations. SaaS revenue was down 2% at a time when most other cloud vendors reported double-digit growth. Needham maintained a Hold rating on the stock saying:
‘‘Our overall opinion on HPE remains unchanged after last night’s earnings call, with a stock that already reflects an anticipated stabilization in some of its most troubled areas. There were positives and negatives worth noting from the call, however including growth in servers (large tier 1 hyperscale), upper single- digit growth in networking (excluding Aruba), and some slowing of the declines in services. Overall, the outlook for FY16 is unchanged (albeit more backend loaded) and the stock likely range-bound at current levels. Enterprise Hardware/Data Center Infrastructure.’’
I’m not convinced that either company is worth an investment at this point in time. The positive sentiment by the analysts on HP Inc is predicated on the recovery of the high-margin printing business. While it’s true that HP Inc owns $50 billion of the $800 billion PC and Printing business, making it the largest player, whatever market share the company can grab from the slow-growth industry probably won’t be big enough to pull its entire business out of its current rut. Investors are more likely to focus much more on the company’s revenue declines, and there does not seem to be any reprieve coming any time soon.
As for HPE, the company’s future growth without a cloud offering hangs in the balance. The company has consistently been losing enterprise market share to its much larger cloud rivals, and I don’t see how the situation will improve now that even the little promise it had is gone.
I think either company will be hard-pressed to repeat the share performance by HP shares over the last three years. Moreover investors should not overlook the fact that HP shares have badly lagged the NASDAQ Composite in the post dotcom bubble burst era.