By announcing major job cuts and new capital returns at its Oct. 18 analyst day, Hewlett-Packard Enterprise Co. (HPE) carried out a pair of moves that activist investors often push for after taking stakes in hard-luck companies. And by spinning off its struggling Software and Enterprise Services units earlier this year, HPE had already checked off another commonly-found item on activist wish lists.
As a result, there are only two big moves that activists often call for which HPE hasn't yet commenced: Overhauling the company's leadership, and pursuing a sale. The first action seems unlikely given the strength of CEO Meg Whitman's reputation -- at least provided Whitman doesn't choose to leave HPE, as some reports indicate she's open to doing.
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The second action feels more plausible, however, particularly following the disappointing guidance HPE shared at its analyst day.
On Thursday, HPE shares fell 4.6% to $14.02 after the company forecast it would see only "modest" fiscal 2018 (ends in Oct. 2018) revenue growth for its continuing operations, even after backing out sales to "tier-1" service providers. With tier-1 sales having been in a tailspin this year due to plunging orders from a major cloud client -- believed to be Microsoft Corp. (MSFT) -- that outlook suggests HPE's total revenue growth will be negative. The analyst consensus for HPE's Enterprise Group -- its main reporting segment following the software and services spinoffs -- had called for 1% sales growth.
In addition, HPE outlined a "long-term financial model" that only calls for 0% to 1% annual organic revenue growth. Sales have been propped up a bit in recent quarters by healthy networking product demand and a string of acquisitions (many hardware-related), but still face tremendous long-term pressure from enterprise adoption of cloud infrastructures that rely heavily on open-source and home-grown server and storage designs.
Earnings guidance is a little better: HPE expects adjusted EPS of $1.15 to $1.25 versus a $1.18 consensus, and is aiming for 7% to 9% long-term annual EPS growth. But that's made possible in part by the company's HPE Next initiative, which (as outlined during the analyst day) aims to achieve $800 million per year in net savings by the end of fiscal 2020 via efforts to "optimize the workforce" and overhaul IT systems, among other things.
HPE Next is expected to require $1.1 billion in cash payments, and yield $300 million in cash proceeds from real estate sales. HPE, which has already carried out major job cuts over the last several years, was reported in September to be planning to lay off 5,000 workers, or about a tenth of its workforce.
Fiscal 2018 EPS will also get a boost from a planned $2 billion in stock buybacks -- good for repurchasing nearly 10% of shares at current levels -- that will be enabled by the adding of another $5 billion to HPE's buyback program. HPE, which forecasts $2.6 billion will be spent on buybacks in fiscal 2017, also hiked its quarterly dividend by 15% to $0.075 per share (2.1% forward yield). The company is now aiming to return 75% of its "normalized" free cash flow (FCF) -- it excludes restructuring costs and various one-time events, and is expected to total $2 billion in fiscal 2018 -- to investors, up from a prior 50%.
All of these activist-friendly moves come after three prominent hedge funds that have a history of pursuing activist campaigns -- Dan Loeb's Third Point Capital, Jeff Smith's Starboard Value and Barry Rosenstein's Jana Partners -- disclosed sub-1% stakes in HPE. David Einhorn's Greenlight Capital has also taken a small stake, but outside of its GM campaign), has less of a history of going activist. Three of the four funds established initial positions in HPE this year; the other (Starboard) initiated a position in Q3 2016 and added to it in Q2 2017.
It's possible that the funds in question didn't invest in HPE with plans to launch an activist campaign, and were simply sold on HPE's low multiples and efforts to remake itself as a leaner, hardware-focused, enterprise IT firm. But the timing of their investments does make for quite the coincidence.
If Third Point, Starboard and Jana do want to push Whitman and HPE's board for big changes, it's hard to imagine them calling for HPE to abandon its current hardware-centric business strategy. That's mostly because the time to do so would've been before HPE spun off most of the rest of its business. If, for example, the funds were to call for a large software acquisition, there would likely be far fewer product synergies available than before HPE's software spinoff.
Pushing for a sale of HPE, by contrast, seems plausible. Shares trade for less than 12 times the midpoint of HPE's fiscal 2018 EPS guidance range based on its market cap, and around 15 times after accounting for net debt. Oracle Corp. (ORCL) , which sports a $206 billion market cap, employs former HP CEO Mark Hurd as a co-CEO and could (in spite of some server overlap) see HPE as an attractive way to fill out its hardware lineup, is one possibility. Private equity, which has shown a healthy appetite for enterprise tech deals over the last couple of years, is another.
HPE's size could act as a deterrent to PE firms, though, given that the company's enterprise value (market cap plus net debt) stands at around $30 billion. But we did see Dell get taken private four years ago in a $24 billion deal, and two years later acquire EMC in a $67 billion cash/stock deal. That makes the idea of an HPE private-equity deal look less far-fetched.
Should Third Point, Jana and Starboard wish to go to war with HPE's management and board in the name of getting the company to pursue "strategic alternatives," chances are we'll find out in a month or two. The window for investors to nominate board candidates for election at HPE's March annual meeting runs from Nov. 22 to Dec. 22.
While it would be a mistake to predict exactly what, if any, moves the aforementioned funds will call on HPE to make in the coming months, one thing is pretty much a given: They can't be happy about the organic growth outlook the company just provided, and the effect it's having on their HPE positions.
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Editors' pick: Originally published Oct. 20.