Headwinds In Core Business Will Keep HP Inc. Stock Depressed

  • HP Inc. has delivered Q1 2016 results that topped analyst estimates.
  • The company's core PC and Printing business, however, continues to be in deep decline.
  • A recovery in these two businesses might not be forthcoming till late 2017 which limits upside to HP Inc. stock.

HP INC (NYSE:HPQ) the arm of post-split Hewlett Packard that sells PC and printers, recently released Q1 2016 results that beat analyst estimates, but which contained notable weaknesses nonetheless. HP Inc. reported first quarter revenue of $12.25B, representing a huge 12% Y/Y decline but still $50M above estimates. Non-GAAP EPS of $0.36 also represented a 12% Y/Y decline but was in-line with expectations.

Looking at HP Inc’s segment performance, it becomes clear that HP is still a company deep in the throes of a severe revenue tailspin. Personal Systems net revenue was down 13% Y/Y with the commercial segment declining by 11% while the consumer segment posted a 16% revenue decline. Total units sold were down 13%; desktop units were down 13% while notebook units declined by 8%.

Printing revenue did not fare well either after falling by a sharp 17% Y/Y. Total hardware units sold declined 20% with commercial units falling 15% and consumer units contracting 23%.

CEO Dion Weisler defended HP Inc’s performance saying the company’s PC business outgrew the market during the quarter (calendar Q4 2015) and that HP hit an all-time high commercial PC market share of 24%. But what Weisler ignored to tell investors is that HP Inc’s overall PC business declined by a much bigger margin compared to the market courtesy of poor performance by the consumer segment. Gartner estimates that PC shipments declined 8.1% Y/Y during the fourth quarter, which implies HP Inc’s reported 13% decline in unit sales was much sharper than the market average. IDC pegs the market decline at 10.6% during the quarter which implies that HP Inc’s reported decline in unit sales was still worse than the market average.

However, there was a silver lining too. HP Inc. reported personal systems net revenue decline of 13% which was the same as the decline in unit sales. This implies that HP Inc’s PC average selling price (ASP) remained flat, which is a positive sign that things are stabilizing. The ongoing woes in the PC market are well-known to investors and at this point are probably fully priced into HP Inc. stock. The PC market is expected to remain depressed in 2016 and start recovering in 2017. My fellow Amigobulls contributor Alex has done a good job analyzing the situation in-depth in this article here so I will not dwell much on it.

Instead, I will talk a bit more about HP Inc’s printing business because I believe a recovery in this core business is really what HP Inc. stock performance hinges on. The printing business sports much higher operating margins than the PC business: 17% vs. 3.1% during Q4, and contributes 80% of HP Inc’s profits. This naturally makes it inherently more valuable to the company. The revenue decline in HP Inc’s printing business was even worse than that of the PC business. Weisler blamed the strong dollar and weak Yen for the huge decline, arguing that it helped Japanese rivals Epson and Canon price their products more competitively. The CEO also blamed deep supplies discounting done to combat aftermarket alternatives.

The shift from printed documents to digital files is, of course, the reason why this business has been on a steady decline. But the fact of the matter is that businesses and institutions still print tons of documents. That explains why the decline in the commercial printing segment was less severe than that by the consumer segment.

HP Inc. has been trying to address the decline by introducing innovative printing products, trying to venture into 3D printing, and trying to grow the company’s share of the office copier business where it’s not as dominant and owns only ~6% market share.

HP Inc. has been trying to improve its installed base mix by gradually moving into higher end printers with higher ASPs while at the same time trying to perform a balancing act against market contraction, a weak macro backdrop, and price competition. Many analysts see HP's brand leadership in the printing business as its key advantage that will help revive its fortunes. Many, however, acknowledge that a turnaround might not be forthcoming until the end of 2017.


While very strong market presence/awareness leave us confident HP is capable of fighting these difficulties, we see increasing risk that stabilization may take longer than currently envisioned (currently expected end of ’17).”

Wells Fargo:

"While we believe there are underappreciated aspects of HPQ that have been built over the past 12+ months (unique position in managed PC services by leveraging its managed print services, potential for gains in premium/gaming/detachable PC segments, opportunity for higher accessories attach, and share gains in displays), we believe more material growth from these is unlikely until FY17 while pressures in traditional PC/printer segments are likely to continue in FY16."

So the general feeling is that 2016 is likely to continue being a tough year for HP. Currently, the biggest catalysts for HP Inc. stock appears to be the company’s cost-cutting initiatives. The company plans to cut another ~3,000 jobs in 2016, and could cut as many as 33,000 jobs over the next three years. The accelerated pace of the restructuring will, however, have a negative impact on the company’s free cash flow during FY16 which prompted CFO Cathy Lesjak to announce that HP had cut its 2016 free cash flow guidance by $100M to $2.3B-$2.6B.

Investor Takeaway

A recovery in HP Inc’s core PC/Printing business is not expected to materialize until 2017. Meanwhile, the company’s restructuring efforts are expected to have a negative impact on free cash flow in 2016. HP has continued posting huge double-digit revenue declines, and might continue doing so over the next several quarters. Judging from what we have seen from IBM (NYSE:IBM) stock over the past few years, it’s hard to inspire investor confidence in a company in the middle of a revenue tailspin even when the said company continues to grow its earnings. Against this backdrop, HP Inc. stock might not have any significant catalysts to make solid gains during the current year.

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  • I do not have any business relationship with the companies mentioned in this post.
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