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Whitman's HP Restructuring Prone to 'Autonomous' Writedowns

In May, Jefferies analyst Peter Misek said that the company's future stock gains hinge on improving performance at Autonomy.

The analyst wrote in a summation of second quarter earnings that HP's investment in IT and cloud services -- such as its Autonomy acquisition -- will offset declining PC and server sales. "We believe HP is one of a handful of players that has or is close to having the components of a full stack (i.e., software, storage, networking, services)," wrote Misek.

Were Whitman's restructuring efforts to work, Misek calculates that cross selling opportunities from Autonomy could lift HP's 2012 earnings per share to $4.20 from a base case of $4.07. Such improvements would warrant a $40 share price because HP's price-to-earnings multiple could rise to 9.5 times 2012 earnings from a base case of 7.5x.

But as Whitman acknowledged on HP's May earnings call, there is the prospect of continued below-expectation performance. In a downside scenario, Misek says that EPS could fall to $4 if Autonomy synergies "take longer to realize," potentially leading shares down to $20 on a falling PE multiple to 5x.

Already, Autonomy has been at the nexus of a radical nine months of change at HP. In August, former HP CEO Leo Apotheker bought Autonomy in a bet it could supplant waning earnings from HP's top-selling computers division. Apotheker was fired shortly after cutting the deal and planning a spinoff of HP's PC-making unit. However, Whitman stuck with the acquisition after joining the company as CEO in September.

In a decisive call, Whitman retained the PC unit but cast high expectations on the benefits of Autonomy. HP chairman Ray Lane said in September that Autonomy's software and analytics revenue could grow from present levels of $1 billion to $5 billion or even $10 billion. "Hopefully, we'll see a bigger software portfolio and we'll see more value-added services at HP, but we have $120 billion of hardware business that we care dearly about," said Lane in September.

Since then, HP has enacted other turnaround efforts under Whitman, including a merger of its PC and printers divisions in a move to cut costs.

On Wednesday, when HP said it expects third-quarter earnings of approximately $1 a share -- compared to its prior outlook of 94 cents to 97 cents a share -- initial stock gains nearing 10% were cooled by the company's non-cash pretax charge of $8 billion for the impairment of goodwill within its enterprise services segment, highlighted by EDS. HP also replaced enterprise services head John Visentin, with Mike Nefkens, a senior vice president of the unit's in Europe, the Middle East and Africa operations.

In afternoon trading, HP shares rose by over 2% to $19.33 on its better than expected earnings guidance. Shares are still down nearly 25% year-to-date and nearly 40% in the past year.

"Though management changes will likely help drive HP's strategic vision to increase profitability in the Services segment, we believe it will likely take multiple quarters to turnaround the business segment," wrote Wells Fargo analyst Maynard Um, in a note to clients.

HP also updated the amount of the third-quarter pretax charge related to the layoffs announced in May, estimating a charge of $1.5 billion to $1.7 billion, up from its prior forecast of roughly $1 billion. The cuts equate to roughly 8% of HP's workforce by 2014, with 9,000 expected to leave this year, and is expected to save up to $3.5 billion by the end of 2014.

Whitman has had autonomy in laying out a broad restructuring plan, but it's the potential for an "autonomous" writedown on HP's transformation efforts that continues to weigh on shares.

For more on tech sector M&A and turnaround efforts, see why a BMC Software (BMC) deal is caught between a cloud boom and tech gloom.

Interested in more on HP? See TheStreet Ratings' report card for this stock.

Check out our new tech blog, Tech Trends.

-- Written by Antoine Gara in New York
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