Shares of Hewlett-Packard Drop on Earnings Shortfall

Updated from 12:25 p.m. EST

Shares of Hewlett-Packard(HWP Quote) fell sharply Monday after the computer and printer maker reported earnings that missed Wall Street's estimates by more than 10% and said it had ended negotiations to buy the consulting arm of PriceWaterhouseCoopers.

The Palo Alto, Calif.-based company's stock dropped $5, or 13%, to close at $34.13, after trading as low as $32.63. The sell-off put pressure on technology stocks and the broader stock market.

The Dow Jones Industrial Average, in which Hewlett-Packard is a leading component, fell more than 230 points during the trading day but made a comeback to finish down 85.70 points, or 0.8%, at 10,517.25.

The technology-weighted Nasdaq composite index dropped below 3,000 for the first time in a year as investors absorbed the company's disappointing announcement one business day after Dell Computer(DELL Quote) warned that its revenues next year would be lower than expected. The Nasdaq closed down 62.27 points, or 2%, at 2,966.72 after dropping more than 150 points earlier in the session.

For the three months ended Oct. 31, Hewlett-Packard reported net income of $922 million, or 45 cents a share, compared with $760 million, or 36 cents a share, in the year-earlier period. Analysts polled by First Call/Thomson Financial had predicted 51 cents a diluted share. Including the performance of investments and similar gains and losses, earnings were 41 cents a share.

Revenue for the quarter rose 17%, to $13.26 billion, up from $11.36 billion.

PriceWaterhouseCoopers Talks Off

The company also said it had broken off talks to buy a portion of PricewaterhouseCooper's consulting business because the two companies were unable to reach a mutually acceptable agreement. As such, Carly Fiorina, Hewlett-Packard's chief executive, said in a statement, "I am unwilling to subject the HP organization to the continuing distraction of pursuing this acquisition any further."

In September, newspapers reported that Hewlett-Packard was negotiating to buy PricewaterhouseCooper's technology arm for as much as $18 billion. The company had confirmed the talks but had warned that significant issues still remained.

"In hindsight, I let the PWC opportunity linger too long," Fiorina said in a conference call with analysts, thanking them for what she called their suggestions about the deal but reminding them that she runs the business.

Difficult Quarter

In the conference call, analysts pressed company officials to elaborate on their assessment of the cause of the earnings shortfall, described in a written statement as "margin pressures, adverse currency effects, higher-than-expected expenses, and business mix."

Asked the specific origin of the pricing pressures, Robert Wayman, the company's chief financial officer, said: "You know this business. There are pricing pressures everywhere."

Fiorina added that more pressure the company had not expected emanated from the low end of its business than from the high end. She did not elaborate.

"Basically you've reversed the achievement you made in the third quarter," said John B. Jones, an analyst for Salomon Smith Barney, a view that company officials did not dispute.

The improved revenues failed to increase the company's earnings as cost of goods sold in the quarter grew to 72.5% of net revenue, up from 71.3% in the year-ago period. Expenses grew 15%.

Company officials told analysts they could plan for operating margins in the high single digits as Hewlett-Packard repairs what they called its "business mix."

"The current consensus is achievable for the year, but given the quarter we've had, we need to be cautious," Fiorina said.

For the new fiscal year, the company said it expects revenue growth of 15% to 17%, compared to 15% in the just-ended year. It expects gross margin percentage of 27.5 to 28.5%, compared to 28.5% in 2000.