Hewlett Packard Files for Divorce; Who Keeps the Kids?
Hewlett Packard (HP) announced on October 6th that it will split into two different companies: A consumer-oriented tech company called HP-Inc. which will sell their PCs, laptops and printers; and a second company named Hewlett-Packard Enterprise which will focus on selling servers, storage and services. The market’s reaction was very positive to the news as this had been a stated goal as long as three years ago under previous CEO Leo Apotheker.
Three years ago when Apotheker announced HP’s intent to sell its PC business, his strategy was to turn HP into an Enterprise software company. The CEO had no buyer lined up and had laid out billions for software and services companies. Quickly it was realized HP had overpaid for the companies and no buyer materialized for the PC unit. Apotheker was fired and Meg Whitman was brought onboard to right the listing ship.
Whitman has written off over $15 billion dollars for the purchases made by her predecessor – almost everything they paid for the companies! She then took HP into deep cost cutting mode. Though no revenue growth has occurred during this period, the cash hemorrhaging appeared to have slowed. I say appeared because one has to wonder why HP did not sell the PC business to another company. Instead, they merely split the unit off. Why – to find another suitor some day? Or because the PC market decline had leveled off a bit?
I suspect the PC market had improved as much as it was going to and the thinking was to remove it from the Enterprise company where they have longer term contracts and far less revenue volatility. As Whitman has taken the CEO position in the new enterprise company clearly this is where she and the board see the brightest future for HP.
The problem with this logic is this: Who takes the hit for the declining PC business and therefore the newly created HP-Inc? Of course they are wagering that the new management team will find a way to outsell Lenovo and the other competitors for China and India, the few growth markets which had so little PCs to begin with that the PC market in those geographies are not seeing as steep a decline as is occurring in Europe and the US.
The answer to this analysis is the investor is being asked to stake a bet which heretofore HP has been unable to find the winning combination to produce any solution for returns. I recommend staying as far away from HP-Inc as you would from investing in Blackberry. In other words, very far.
So what about Hewlett-Packard Enterprise? This company has a far rosier future given that it is focused on large business services and products. But that is simply a straight-line comparison with HP-Inc. During the last year it has been reported that HP tried to sell almost all of their units, PCs, Storage and the others and found no takers. There was even a widely believed rumor that HP attempted to merge with EMC which has since been refuted.
Given that HP tried to sell the pieces and couldn’t, this is their competitors view of the value of the new Hewlett-Packard Enterprise company. Their storage solutions are not selling. They have no large consulting unit similar to IBM and the others in this space. Their traditional large Unix servers are not selling very well as the x86 (PC type architecture) servers. The good news is they retained the x86 server in the new company but let’s not forget that this new company is going to have to compete against Lenovo and a privately owned Dell company.
Companies such as IBM have new products like Watson which are learning machines able to provide analytics insight for the major industries. Where do we see any new products resulting from or being enabled by the split? One of the major benefits a company like IBM received when it sold off their PC units was a lot of cash. On top of the cash their profit margins improved over night as the PC business has always been a commodity. The margin compression in that business has been in flight for over a decade if not two.
Since Hewlett-Packard Enterprise in effect receives no cash for this split they do not get a cash infusion beyond what will be created by the issuance of new stock. Therefore the new company will have to self-fund innovation and integration by themselves. When GM was able to rid itself of its existing debt after the government stepped in after the crash and bailed them out , GM did well for a while. But the fact that there exists overcapacity for car production only allowed GM to sell just so much.
The reality is we are very slowly climbing out of “The Great Recession” today. HP has been affected by this downturn as much as any other company. Therefore, the reduction of debt and a more stable cash flow on top of the equity the new stock produces may provide the springboard that Hewlett-Packard Enterprise requires to become something more than it was before the split.
Time is going to tell us if new innovation can occur within a company which has been relatively stagnant for a decade now. When HP bought the largest PC company – Compaq Computer – at the start of the new millennium they essentially became the number one PC maker in the world. When they made that acquisition they paired HPs server technology with what they received from Compaq. The future looked very bright.
After a few years HP began going down the commodity trail with their servers and began selling some of the least expensive servers in the business. Their revenue grew but their differentiators did not. The HP strategy for becoming the Enterprise value tech provider clearly never worked. As a result HP started the process of decline. Can all of the good financial things which the split will bring provide them the springboard to start a serious innogration culture again? The answer is, yet again, only time will tell. They are clearly in the process of reinventing themselves.
Recently there have been some very compelling examples of “reverse innogration”, which we define as a company becoming more competitive by divesting itself of assets that do not directly contribute to a winning a specific product category. Another example is PayPal spinning out from eBay. The reason why eBay and PayPal split is because the companies were competing in two very different markets. The cultures of the two companies did not create additional innovation and integration ideas. The companies were stuck in a rut and needed a way to get out, and divorcing was the only way to do it.
The thinking was both companies could return to growth if they became smaller and more like the Silicon Valley startups they once were. With Apple moving into mobile payments PayPal is going to have reignite its entrepreneurial self very quickly. I think eBay likely has a better chance with the removal of the revenue they were getting from PayPal.
All of that said – the reverse innogration move of PayPal and eBay is a real example of companies mining for growth. In comparison to the HP split however, HP is basically not number one in any category with the exception of PCs which everyone knows is a declining market segment. I know many people who only use their Smartphones for email which was the big driver for the PC segment for years.
What the new Enterprise company must do is very challenging: It must install a new culture. One where they create not only a culture for innovation, but for the large fortune 500 enterprise companies they serve. The problem is they have an existing revenue stream in servers, storage and services which they have to grow while innograting within their existing infrastructure of billing, tools and the like.
When Meg Whitman ran eBay it was shiny and brand new. It grew because the market had seen nothing like it before. Can she make the new HP enterprise company shiny and new? She certainly can sell it verbally very convincingly as she did on CNBC earlier this month. For our subscribers I suggest a wait and see approach. Meg is being asked to do something she has never done before.
Meg is very capable and has a chance to pull it off but it will require her adopting a very different approach then she has employed previously. IBM has not gone away entirely as a competitor despite this morning’s announcement, and the last HP CEO who built their Enterprise business is taking the helm at Oracle as Larry Ellison moves onto a board position. The industry competitors know HP and a value play won’t work even as a smaller company.
After the hoopla dies down in a few months let’s look and see what signs of a new innogration culture emerge at HP. This will foretell us what new products and services HP can bring into a very crowded enterprise solution marketplace.