has found itself in the middle of a price war of its own making, with the technology giant putting its star business unit on the line as it attempts to hold on to control of the printing market.
, H-P's main competitor in the printing industry,
missed its first-quarter financial expectations Tuesday because of "aggressive pricing and soft consumer demand." The Lexington, Ky.-based company also issued weak second-quarter targets for the same reasons.
On Tuesday, Lexmark shares fell 14% to $67.70 -- an 18-month low. H-P shares dropped 3% to $20.47, about where shares traded last month before the company
named Mark Hurd chief executive officer, as investors reacted negatively to the possible implications of a printing price war.
But falling printer prices shouldn't be a surprise to investors. In February, H-P predicted it would get more aggressive on pricing for its printers, as H-P Executive Vice President Vyomesh Joshi said in a conference call, in order to "drive faster hardware growth and recapture some share losses."
Lexmark's financial report was the first indication of how aggressive H-P might have become during the quarter. Lexmark reported earnings excluding charges of 99 cents a share on sales of $1.36 billion, while analysts had expected earnings excluding charges of $1.03 a share on sales of $1.38 billion.
H-P is the world's largest maker of printers, followed by Lexmark,
. H-P, however, is vulnerable because of its recent struggles and its reliance on printers to generate the majority of its profits. Analysts expect earnings of 36 cents a share on sales of $21.39 billion when H-P reports second-quarter financial results on May 17.
Compressed margins have become a growing concern for H-P investors. In the first quarter, H-P said margins slipped to 22.9% from 23.3% in the fourth quarter and 24.7% in the first quarter last year.
To combat gravity, H-P said it would cut costs, fight for market share and streamline its supply chain. The company
predicted that investors would not see the types of margin declines, going forward, that it had in the first quarter.
But that remains to be seen.
Analyst Bill Fearnley Jr., of FTN Midwest Securities, had expected the printer market in the past few months to become more competitive, resulting in reduced margins for manufacturers. He doesn't foresee an immediate end to the problem and predicts that the price war will continue at least through the calendar third quarter.
"It wouldn't surprise me for this pressure to last through the back-to-school shopping season," he says. "That's the next major showdown for market share gains." Fearnley, whose firm has no investment banking relationship with Lexmark or H-P, doesn't own shares of either company.
Because printers represent a source of substantial strength for H-P, the dangers of entering a long-term price war here are magnified.
"If the rest of the company were more healthy, then they could more easily afford to put the revenue and profits from printing and imaging at risk," says Charles King, principal with Pund-IT Research.
According to King, the printer industry is increasingly driven by the whims of supply and demand -- and that spells trouble. "The commoditization pressures that have affected the PC industry and hurt H-P," King says, "are increasingly becoming a problem in the printing and imaging industry."
That means declining margins for printers could be more than just a two- or three-quarter issue. It could be an irreversible trend and one that will ultimately gobble up the profits H-P's printing unit has used in the past to prop up its other, already-commoditized business units.