December 7, 2012 – Hewlett-Packard’s value has plunged to less than the $31 billion it spent during a five-year takeover binge, the strongest evidence yet that investors would be better served by disassembling the maker of consumer laptops, printers and corporate servers.
Deals for Autonomy Corp., Electronic Data Systems Corp., Palm Inc. and others built on the $17.6 billion purchase of Compaq Computer Corp. a decade ago, when HP doubled down on personal computers. With the company failing to capitalize on a boom in demand for smartphones, tablets and cloud computing, fiscal 2012 sales fell, and analysts project declines for at least three more years, according to data compiled by Bloomberg. In the latest setback, HP said it overpaid for Autonomy because of fraud, boosting last year’s deal-related writedowns to $18 billion.
“All of this points to a company that’s dysfunctional,” Brian White, a New York-based analyst for Topeka Capital Markets Inc., said in a telephone interview. “This whole mishap with Autonomy should be a wake-up call to do something. I think it’s time,” he said. “How much more pain can investors take before you understand that something needs to be done?”
The $27.2 billion company, valued at more than $100 billion as recently as 2011, could boost a stock price languishing near a 10-year low under $14 to more than $20 by separating into two companies focused on consumers and business clients, UBS AG said. By jettisoning PCs and printers, HP can reinvest that cash into the enterprise unit to enhance its software used for data centers, according to Topeka Capital.
Michael Thacker, a spokesman for Palo Alto, California- based HP, said in an e-mailed statement that the company remains committed to its current corporate structure.
“HP has some of the most valuable franchises in the technology industry,” he said. “There are many advantages in one organization, including branding, go-to-market, supply chain, procurement scale, effective leverage of functional costs and collaborative R&D efforts. HP is committed to keeping our businesses and assets together. Our customers and partners tell us that’s what they want.”
HP, run by Chief Executive Officer Meg Whitman, remains one of the U.S. technology industry’s largest companies, with only Apple Inc. (AAPL), at $156.5 billion, generating more, according to data compiled by Bloomberg. HP also has the second-worst-performing stock in 2012 among technology companies in the Standard & Poor’s 500 Index, following a 46 percent plunge.
The company bolstered its position in personal computers by purchasing Compaq, a deal former CEO Carly Fiorina completed in 2002 despite the objections of Walter Hewlett, the son of co- founder Bill Hewlett. While the transaction catapulted HP to No. 1 in PCs over Dell Inc. several years later, Fiorina was ousted in 2005 after failing to generate the profits she’d promised.
Her successor as CEO, Mark Hurd, struck deals for Electronic Data Systems, expanding HP’s division providing contract technology services to corporations, as well as mobile-device maker Palm. After he departed, his replacement Leo Apotheker shut phone and tablet production amid slow sales and increasing demand for Apple’s iPhones and iPads and devices running Google Inc.’s Android software.
Apotheker also agreed to buy Autonomy, a developer of data- mining software used by corporations. HP now says that company committed accounting fraud. Autonomy’s former CEO Mike Lynch has denied that. HP wrote down the value of the Autonomy deal by $8.8 billion during the fourth quarter.
HP’s acquisition strategy has failed to boost its value, with the $31 billion spent since December 2007 on acquisitions exceeding the stock’s current market capitalization, according to data compiled by Bloomberg. The company also has $35.6 billion in goodwill, the amount paid for acquisitions above the target company’s asset value. That exceeds HP’s market value by $8.4 billion, more than any other U.S. corporation, the data show.
“HP has been a serial disappointment and a case study in mismanagement, dreadful capital allocation and poor corporate governance,” Todd Lowenstein, a Los Angeles-based money manager at HighMark Capital Management Inc., which oversees about $17 billion and owns shares of Hewlett-Packard, wrote in an e-mail. “The company is probably worth twice its current share price on a conservative appraisal of its sum-of-parts breakup scenario.”
Fiduciary Trust sold its HP stake several years ago when the investment firm began losing confidence in the company’s leadership, according to Chief Investment Officer Michael Mullaney.
“It’s absolutely dirt cheap,” Mullaney, who helps manage $9.5 billion in Boston, said in a phone interview. “If they want to try to fix it immediately, it would be by splitting up the company. That’s exactly what they have to do.”
HP needs to overhaul its board, because some of the current members are responsible for approving the Autonomy acquisition, and then split the company in two, said Topeka Capital’s White.
The personal computer and printer businesses could be spun off together or sold to a buyer such as an Asian computer maker like Taiwan’s Acer Inc. (2353) or Asustek Computer Inc. (2357), White said. The printer business, the stronger of the two, could help entice an acquirer and get a better price, he said. Phone calls and e- mails to representatives at Acer and Asustek weren’t immediately returned.
A breakup would allow management to turn its focus to the enterprise unit and reinvest the cash to bolster its software offerings, White said.
“Why should the CEO have to wake up and spend any time thinking about the PC business when there’s such a negative trend? Why wake up to a losing battle each day?” he said. “If they actually did some of these divestitures, they’d have more capital for acquisitions – but good ones.”
PCs and printers together made up 49 percent of HP’s 2012 sales, yet investors are getting those businesses for free based on the current market value, said Steven Milunovich, a New York-based analyst at UBS. He estimates the company could be worth more than $20 a share, or almost $60 billion including net debt, in pieces next year, according to an Oct. 8 report. He valued the PCs and printers groups at a combined $15.6 billion.
“HP is probably too big for anyone to manage,” he said in a phone interview. “They’re trying to be all things to all people.”
The sum of HP’s businesses implies a stock price of about $20 a share, according to ISI Group’s Brian Marshall. That’s 45 percent higher than yesterday. Still, he cautions that the company’s future sales and profit are so uncertain that it would be difficult to get to that level under the current structure, and a breakup may be too difficult for management to enact right now.
“It’s cheap for a reason,” Marshall, a San Francisco- based analyst for ISI, said in a phone interview. “It would be extremely difficult, if not impossible, to break up those divisions. HP has so much on its plate right now just trying to keep the ship afloat that they can’t possibly take on that complex of a transaction right now.”
Whitman has said the company reaps advantages by keeping its divisions together, including the strength of the Hewlett- Packard brand on PCs and advantages from buying chips and other components that can be used across computers, printers and servers. Whitman last year decided to keep the PC business, reversing Apotheker’s plan to get rid of it.
Still, analysts see a diminished business should the status quo be maintained. HP’s revenue in the fiscal year that ended in October was down 5.4 percent from 2011, the biggest annual slump since 2001. Analysts’ average estimates show a decline in each of the next three years, data compiled by Bloomberg show.
Whitman on Oct. 3 forecast less fiscal 2013 profit than analysts projected, saying the company would earn $3.40 to $3.60 a share, excluding some items. The average estimate was $4.16, data compiled by Bloomberg show.
HP’s greatest strengths at the moment are in its enterprise computing group, according to Jayson Noland, a San Francisco-based analyst at Robert W. Baird & Co. That unit had sales of $20.5 billion last year and supplies the servers, storage and networking gear that powers corporate data centers. The company is counting on products like its Project Moonshot systems, which let customers cram thousands of computing cartridges into a machine to solve Web serving and data-analysis problems.
“They have to show synergies across these divisions” and show corporate customers what the advantages are of buying PCs, printers, servers, storage and networking gear from one company, Noland said in a phone interview.
If not, “what’s the point of this all being under the same umbrella?” he said. “Then you need to break it apart.” The company wouldn’t likely sell divisions under “duress” and could wait until performance improves, Noland said.
HP probably hasn’t pursued a divestiture because it will be difficult to align the company’s asking price for its PC or printer business with what a buyer is willing to pay, said Shaw Wu, San Francisco-based analyst for Sterne Agee & Leach Inc. Even if a suitor were interested in the entire company, its size could be a deterrent, he said.
“You’ve got to have pretty deep pockets,” even though the shares have already fallen, Wu said in a phone interview.
Still, it behooves HP to act quickly and not be too discriminating when it comes to offer prices because the value of the pieces may continue eroding, he said.
“It may make sense to do it sooner than later,” Wu said. “There is a bit of an expiration date.”
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