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Hewlett-Packard is Getting Out of PCs: What a Disaster!

By Jim Fink on August 23, 2011

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Options let me make money on stocks even when they don’t go up.

Jim Fink — Options for Income

On a huge up day for the stock market – with the Dow Jones Industrial Average up more than 230 points – the stock of computer company Hewlett-Packard (NYSE: HPQ) is down. This stark contrast is a perfect metaphor for the corporate mess that Hewlett-Packard (HP) has become.

Hewlett-Packard’s Original Success Was Based on the HP Way

Co-founders Bill Hewlett and Dave Packard, who formulated the wildly successful business concept known as The HP Way, are undoubtedly turning in their graves right now. The HP Way is based on a two-prong premise that a company should make a technical contribution to society while at the same time providing complete customer satisfaction. Profits are important, but should be the result of implementing the HP Way, not a focal starting point. The last HP CEO with an engineering degree was Lewis Platt, who ran the company from 1992 until 1999. Under his tutelage, the company reached the pinnacle of success in 1997 when it became a member of the Dow Jones Industrial Average.

Carly Fiorina was the Beginning of the End

With the 1999 CEO appointment of AT&T marketing executive Carly Fiorina – a person with no technical background whatsoever – the HP Way was abandoned and the long slide and disintegration of HP began. Next up was HP Chairman Patricia Dunn who illegally spied against fellow HP board members and had criminal charges filed against her. This farce was followed by CEO Mark Hurd resigning after charges of expense report fraud and sexual harassment became public.

While it took awhile for the internal damage from these sorry episodes to show up on HP’s bottom line, but just look at how badly Hewlett-Packard has stumbled over the past five years, trailing the stock performance of key competitor IBM (NYSE: IBM) by an astounding 146 percentage points:

Source: Bloomberg

Hewlett-Packard’s Decision to Exit the PC Business is a Mistake

The latest chapter in HP’s slow death occurred last Thursday (Aug. 18th), when the company released its third-quarter earnings report. Earnings were fine, in-line with analyst estimates, but the real shocker was the company’s announcement that it was:

  • Seeking to divest its personal computer (PC) business, which is the largest in the world;
  • Shutting down all development and manufacture of mobile devices (i.e., smartphones and tablets) based on the webOS operating system it bought from Palm in 2010 for $1.2 billion;
  • Spending $10 billion to acquire a U.K.-based enterprise software company called Autonomy (Other OTC: AUTNF.PK).

Investors absolutely hated the news, sending the stock down more than 20%, its worst one-day loss since the stock market crash of October 1987. While it’s true that co-founders Bill Hewlett and Dave Packard never were interested in commoditized products like PCs, the fact remains that once a company has become the world’s largest of anything, it achieves competitive advantages of scale and scope that generate real value. For example, volume discounts on purchases of commodity computer hardware parts will be lost. One analyst estimates that HP’s earnings will decline 5% after the PC divestiture because it will lose these purchasing economies of scale. Venture capitalist and Idealab founder Bill Gross (not PIMCO’s Bill Gross) makes a great point when he asks on Google +:

Has there ever been a time in history when the world’s largest of something abandoned it? I can’t think of one.

Whoever buys the PC business won’t be able to pay its full value to HP because the buyer won’t have the economies of scale that HP did. Furthermore, HP was crazy to announce to the world that they wanted out of PCs before consummating a sale of the business because now potential PC customers will go on a buyer’s strike, and look elsewhere for their PC needs to avoid potential service disruptions during the ownership transition. Consequently, sales of HP PCs are sure to drop precipitously, severely hurting the value of the business and ensuring that the sale price will be much lower than it otherwise would have been.

Carly Fiorina’s Compaq acquisition in 2002 was a mistake, but selling out of PCs now — after years of hard work to become the top player — is an even bigger mistake. As Dell CEO Michael Dell recently tweeted:

If HP spins off their PC business . . . maybe they’ll call it Compaq?

Mistake No. 2: Hewlett-Packard Shuts Down webOS

Shutting down the webOS platform is equally mystifying. Sure, Apple’s (NasdaqGS: AAPL) iOS and Google’s (NasdaqGS: GOOG) Android are the market leaders in mobile operating systems, but Palm’s webOS is really good and could have competed. As HP itself stated at the time of the Palm acquisition, webOS is “unparalleled” and “unique” and “will allow HP to take advantage of features such as true multitasking and always up-to-date information sharing across applications.” Vice President Brian Humphries said soon afterwards:

WebOS is the best-in-class mobile operating system. Our intent is to double down on webOS.

Mistake No. 3: Hewlett-Packard Overpays for Software Company Autonomy

Lastly, purchasing Autonomy may make sense strategically because the company is involved in fast-growing enterprise management software, but the $10.3 billion price tag (HP only has $12.9 billion in cash on the balance sheet) is outrageous. One analyst said that HP is “massively overpaying” for Autonomy and another said that the acquisition will be “value destroying” because at a $10.3 billion purchase price it promises an annual return on investment of only between one and two percent – much lower than HP’s 8% or 9% cost of capital. 

Bottom line: HP’s announcement was a “trifecta of bad news” and it will take a very long time before the stock rebounds. 

Hewlett-Packard CEO Leo Apotheker is the Wrong Man for the Job

This begs the question why HP did it? I must lay the blame on yet another HP CEO Leo Apotheker, another clueless CEO in the long line of bad HP CEOs since the end of the Platt era. Apotheker was appointed CEO in September 2010 after Hurd’s resignation. He came to HP from German enterprise software company SAP AG (NYSE: SAP), where he was CEO for nine months before getting fired. In an interview, SAP Chairman Hasso Plattner said that Apotheker was fired because “large parts of the workforce were no longer confident that Leo Apotheker was the right man for the job.” Apparently, he generated a dramatic “lack of trust.” Does this type of person sound like someone who can guide HP through the most wrenching transition in the company’s history?

Former CEO Mark Hurd was hated by HP employees, and I predict Apotheker will soon be similarly hated. You can’t run a company successfully if your employees hate you. In Advisor Roundtable: Your Favorite Labor Day Stock, I cited legendary General Electric (NYSE: GE) Jack Welch who, in answering the question “which three measurements give the best sense of a company’s health?,” states on his website:

Employee engagement is first. It goes without saying that no company, small or large, can win over the long run without energized employees who believe in the mission and understand how to achieve it.

Some savvy analysts believe that Apotheker is selling off PCs and mobile devices, not because it is in HP’s best interest, but because he comes from an enterprise software background and wants to transform the company into something he is familiar with.  Apotheker has never shown any interest in the consumer market or hardware devices in general. Never mind that consumer hardware is an HP strength.

Don’t Buy the Stock

Despite the fact that HP’s stock is selling at its lowest price since 2005, I would be in no rush to buy it. Massive corporate restructurings and acquisition integrations take a long time to bear fruit, even in the best of situations. In contrast, HP’s situation is one of the worst I have ever seen.

Magnify Your Stock Profits By Using Options With the Help of Options for Income!

Rather than buy stock in HP and wait years for the stock to rise meaningfully, an alternative way to play HP is to sell a put option at a strike price significantly below HP’s current market price. With HP currently trading for $24.50, you could sell a January $20 put option (symbol: HP120121P20) for $1.35 ($135 per contract). HP could fall an additional 18.4% — down to $20 — and you could still make the maximum profit on the trade! That demonstrates the power of options.

For example, in Options for Income, my new option trading service, on June 2nd I recommended selling put options that expired in July on biotech company United Therapeutics (NasdaqGS: UTHR). The stock didn’t go up and even declined about 10% by July expiration, but my subscribers still pocketed a 26% profit in less than two months!

If you are interested in earning double-digit returns like this on stocks that go nowhere or even decline, give Options for Income a try today!

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  1. avatar
    Alan Reply May 31, 2012 at 5:54 AM EDT

    HP have never been the best for personal computers anyway in my opinion, so this is no surprise to me.

    I use Dell for all my home and office systems, and will continue to do so for the foreseeable future.