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Updated from Aug. 19

Wall Street knocked nearly 10% off the value of



shares a day after thehardware maker muffed on its third-quarter results,missing analysts' projections on the top and bottomline and admitting that its own price war against



had helped shove its PCdivision back into the red. Plus, margins in itsprinting division, usually a profit powerhouse, proveddisappointing.

The stock was off $2.17, or 9.8%, to $19.94 inmidafternoon trading.

Analysts split down the middle on H-P's prospects.Some took a things-can-only-get-better approach,pointing out that the fourth quarter now underway isthe strongest of the year for the company as itbenefits from back-to-school and pre-Christmasselling. From that standpoint, a few analysts saidinvestors might consider taking advantage of currentprice weakness.

"Investors will be disappointed with H-P'sinconsistency and 2.5% drop in printing margins, butat the risk of sounding overly contrarian, we wouldbuy during the ensuring selloff," said Fulcrum'sRobert Cihra. "Getting past its seasonally weak fiscalthird-quarter hump now takes H-P into itsseasonally strongest fourth quarter." In the upcomingquarter, he expects to see positive momentum in PCs; asizeable jump in printing revenues; and a return toprofitability for H-P's server and storage division.

Cihra has a buy on the stock; his firm doesn't doinvestment banking.

But others argue the company's track record isjust too spotty to earn it a recommendation. "H-Pbadly missed its quarter, falling back into the habitof alternating good and bad reports," said MerrillLynch's Steve Milunovich in a note. "This quarter hadelements of the squeeze between Dell and



that wefear long term. We believe Dell's PC execution remainssuperior and IBM is gaining enterprise market share."

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Though it didn't come as a huge surprise thatH-P's results were light on revenue, the 3-cent EPSmiss was startling, said Milunovich. Plus, earningsquality was weak, with the company gaining a pennyfrom a low tax rate and tacking on still morerestructuring charges, he added.

He called relatively robust fourth-quarterguidance "doable," but shaved a nickel off his full-year estimates, reducing fiscal-year 2004 estimates to$1.40 from $1.45. Merrill has a neutral rating onshares; it's done banking for H-P.

Needham & Co.'s Charlie Wolf had a similarlyunenthusiastic response to H-P's latest results. In anote, he suggested he'd refrained from slapping a sellon the stock only because of the relatively cheapshare price. "Until it confronts the indirectdistribution model's inefficiencies, H-P will continueto have a chronic competitive disadvantage to Dell,"he wrote.

"Once again, ink saved the day," observed Wolf,referring to H-P's printer division. But while itchipped in nearly four-fifths of H-P's operatingincome, the printing arm nonetheless suffered adecline in profit from the prior quarter. "As we'venoted many times in the past, the profitability of thedivision could be at serious risk once Dell fine-tunesits printer initiative and steps on the gas."

Wolf cut his fiscal 2003 earnings estimate from$1.20 to $1.14 and his fiscal 2004 estimate from $1.45to $1.40. "The stock appears relatively cheap on aprice-to-earnings basis," he acknowledged, "But our2004 estimate could be at risk if Dell accelerates itsprinter market presence." Needham hasn't done bankingbusiness for H-P.

After the market closed Tuesday, the companyposted sales growth of 5%, to $17.35 billion in theJuly quarter, below consensus estimates for $17.46billion.

After adjusting for a currency benefit of 7percentage points, H-P's sales actually would havedeclined by 2% from the prior year. In Europe, saleswould have fallen 8% after stripping out currencygains.

The company swung to a profit of $297 million, upfrom last year's loss of $2.03 billion. Per-shareprofit amounted to 10 cents a share, according togenerally accepted accounting principles.

On a pro forma basis, EPS totaled 23 cents, 3cents below analysts' projections. The pro formanumber reflects pretax charges of $376 million inrestructuring, $141 million in amortization ofpurchased intangible assets and $40 million foracquisition-related items.

CFO Bob Wayman said the EPS miss was due torevenue shortfalls in the company's server and storageline and in its PC division. In computer hardware,revenues were light in part because of heavydiscounting; in addition, H-P had to pay up to sendsupplies of flat panel displays by air freight.Finally, gross margins came in a little lower thanexpected in the company's powerhouse printing andimaging arm.

"I think what took people by surprise is theweakness in the IPG

imaging and printing groupprofits. They were burdened by the marketing launch ofBig Bang 2

H-P's recent launch of 158 products,"says CIBC analyst Ali Irani. "The quarter wasdefinitely burdened by some missed opportunities."

"The third quarter is always tough, but we stillshould have done better," said Carly Fiorina, H-P'sCEO, adding that the company expects to deliver astrong fourth quarter and is on track to pull its PCand enterprise division back into the black.

Separately, in response to an analyst's criticalquestion about H-P's propensity to takeacquisition-related charges, Wayman said the companycurrently plans to take its final charge in theupcoming fourth quarter.

In other news, H-P said it will reduce itsworkforce by an additional 1,300 jobs, on top of the3,500 cuts it outlined this spring.

H-P issued guidance for a fourth-quartersequential sales increase of 8% to 10%, to $18.8billion to $19.1 billion, with an EPS range of 34cents to 36 cents.

Analysts had been expecting revenue of $19.04billion and EPS of 36 cents. If H-P meets the high end of its sales range, it willjust be able to meet its earlier top-line projectionfor total sales of $36.4 billion in the second half ofthe year.

But based on today's results, it looks like thecompany will come up slightly short on its second-halfbottom-line projection for total EPS of 62 cents. Itwould need to generate 39 cents EPS in the finalquarter to meet that goal.

The fourth-quarter business guidance "assumes wedon't have continued deterioration, but it's certainlynot assuming a pickup in Europe or elsewhere," saidFiorina.

In a related comment on the macro environment,Fiorina added, "I would describe the U.S. as havingstabilized. We don't see a rapid upturn in IT spend.As I've said for some time now, I think it willcontinue to lag a bit the overall economy, but clearlyit's stabilizing. I think that's also true around therest of the world -- the exception being the generaleconomic climate in Europe, which remainsproblematic."

One analyst on the call voiced skepticism aboutwhether the company would be able to notch thatguidance, given its recent miss. Irani called theskepticism "fair, given they didn't deliver thisquarter," but added that H-P's problems seemed to beself-imposed -- including heavy PC discounting and amiscalculation on demand for flat-panel displays --and that the company has pledged to fix them.

H-P's fourth quarter should see a benefit from BigBang-related revenues and from recently signedservices contracts, he said. "The question investorshave to ask is with H-P at a 20% discount to the S&P500 multiple with the postmarket selloff, could therebe some value in H-P shares given this is likely aone-quarter missed opportunity rather than amultiquarter event," said Irani. He currently has asector-perform rating on the stock; his firm hasn'tdone banking for H-P.

In the third quarter, H-P's PC division fell intothe red, posting a loss of $56 million after eking outa $21 million profit in the prior quarter. The companysaid its desktops had suffered from reduced volumesdue to seasonal trends.

Another factor, said Fiorina, was that "our ownoverly aggressive pricing actions negatively impactedgross margins." She said the company had "takencorrective actions" and aimed to return the divisionto profitability in the quarter now under way.

Revenues in the PC division were up 5% year overyear but down 3% from the prior quarter. Notebookunits grew 54%. H-P said strength in notebook andconsumer desktop PCs was offset by a double digityear-over-year decline in commercial desktop sales.

H-P's printing line posted a sales increase of 10%over the prior year but saw revenue fall off 5% fromthe prior quarter. Operating profit margins fell to14.1% of revenue, a trend H-P said reflected "morenormal levels" compared to margins of 17.9% a yearago. The company chalked up the decline to a seasonaltop-line drop-off, product transition costs, andincreased sales and marketing costs.

Servers and storage stayed flat with last year,with revenue down 4% sequentially. Operating losses of$70 million were up from a loss of $7 million in theprior quarter, but smaller than the loss of $252million that H-P posted a year ago. H-P said thesequential increase in the loss was partly due totop-line weakness and to the acceleration of itsprocessor transition from Alpha to Itanium.

Software revenue was down 8% year over year but up6% sequentially. Meanwhile, services revenue grew 5% from last year and2% sequentially, helped along by a 21% rise in managedservices.