Signup for our free newsletter:

Investing in Hewlett-Packard (NYSE: HPQ) Spin Off

Written By Briton Ryle

Posted October 6, 2014

Computer technology giant Hewlett-Packard (NYSE: HPQ) is torn between the past and the future. It is literally being torn in two.hp hewlett packard

Originally a computer hardware manufacturer, HP is attempting to expand into the new arena of cloud computing by offering businesses and individuals such services as shared server networks where all their files are stored online for easy access across multiple devices, including tablets and smart phones. It’s the next generation of computing.

But the old generation of computer hardware is not completely dead yet. As they say, even those articles that proclaim the death of the personal computer were written on a personal computer.

For a while at least, we are living in a binary computing age – part personal computer-based and part mobile cloud-based. HP is trying to figure out how to put one foot in each sphere without tearing itself apart. After much debate, the company’s management finally decided that it can’t. It will have to tear itself apart.

“The company would be split into two entities — one focused on HP’s traditional business in personal computers and printers, and the other consisting of computer servers, data storage devices, networking, software and services aimed at businesses, according to the individuals, who requested anonymity to preserve relations with HP,” reports the New York Times. “’The split is upon us,’ said one person familiar with the HP board’s discussions.”

If you are an investor in HP or are considering the stock, you may find this of particular interest, as it could open a door to a whole new investment opportunity.

The Next Generation of Computing

Just what kind of opportunity is opening up before us? Nothing less than the next generation of computing, which happens every time a new device comes to market.

When smart phones first came onto the market, companies everywhere scrambled to design whole new mobile applications and portals for their businesses. It was like a new highway being built on the side of your store, forcing you to tear down a wall and install a new entrance to capture shoppers cruising along that new street.

Of course the computing revolution didn’t end with smart phones, as tablets quickly stole consumers’ affections and transformed personal computing yet again. Only this time, tablets would also transform where data is actually stored – onto a “cloud”.

Where personal computers have hard drives of enormous capacity onto which files are stored, smart phones and tablets have next to nothing other than that which is required to keep the gadgets working. Thus, computing on smart phones and tablets requires an external storage area where users can keep their files. These external storage sites are massive computer servers known as “clouds”, where users pay a small fee for a little space within that cloud where they can store their files – either for themselves or their businesses.

Cloud storage is vital for mobile computing to become practical. Not only do you need that external storage area, but you also need to be able to access it from multiple devices, through your smart phone, your tablet, your computerized wrist-watch, and in the not-too-distant future, through your thought-controlled computerized headband.

Thanks to cloud computing, work can now be accessed by and shared with multiple people at multiple locations from multiple devices. It’s the future of computing, and HP wants in on it.

Anti-Synergy for Better Focus

Seeing as cloud computing is going to steal a great deal of focus away from standalone personal computers, Hewlett-Packard would find it more effective and expedient splitting itself into two divisions so that neither ends up stealing talent and funding away from the other.

Other tech giants have been spinning-off different activities for years. Microsoft (NYSE: MSFT) and IBM (NYSE: IBM) have spun-off the Web-based portions of their companies to leave each core business free to focus on what it does best – Microsoft on software and IBM on business computing solutions. “Last week, IBM completed the sale of its commodity server business to Lenovo of China for $2.1 billion,” reports NYT. “In 2004, Lenovo bought IBM’s PC business for $1.25 billion.” Simply let each entity focus on its own special area of business.

To a similar end, splitting HP’s interests into a hardware division and a cloud-computing division would give the company “greater speed and agility that might come with two smaller and more focused companies,” CEO Meg Whitman was paraphrased as saying. Only such concentrated focus could allow HP to compete against rivals in the cloud-computing space who have already beaten HP to the punch.

Amazon (NASDAQ: AMZN) and Google (NASDAQ: GOOG) already have cloud computing services up and running, which allow new startup companies access to valuable back-office services at a fraction of the cost of maintaining similar departments of their own in-house. For HP to successfully compete with its own cloud-computing services, it needs to split.

But wouldn’t splitting a business incur more costs and decrease efficiency? Synergy has been all the rage for decades, where two companies join together to eliminate redundant departments and cut costs. Wouldn’t splitting HP be the reverse of that, incurring more costs as offices and occupations are duplicated?

Yes, it would. But if those extra costs result in extra productivity by a larger degree, then the split is worth it.

“It’s a good idea for them to do this,” Patrick Moorhead, an independent computer industry analyst extolled the plan. “They must have looked at the company and decided that the benefits of moving at the right speed outweigh the cost savings.”

Remember that HP is already a little behind Amazon and Google in the cloud-computing space, and CEO Whitman understands that speed and agility are key to ensure HP doesn’t fall out of the race completely.

What of Shareholder Interests?

But what would a split of HP mean for shareholders? Would it be a good deal for them or not?

First we’ll need to consider the size of the split. “The two businesses resulting from the proposed split almost evenly divide HP’s fiscal 2013 revenue of $112 billion,” NYT informs. “On their own, both would easily fit in the top half of the Fortune 500.”

Of course, this does not mean HP shareholders will lose half of their shares’ value. The company would most likely issue existing shareholders of HPQ an appropriate amount of shares of the new spun-off company. IE: For every share of HPQ, you would receive 1 share of “NewCo”, or some other quantity that reflects the ratio of the split. So there is no fear that investors will be short-changed.

Where the fear does lie, however, is in the expected performance of the new company, and thus the new stock issued. Will HP’s new cloud-based entity be able to make inroads into the cloud space? Or will it be blocked at every turn by Amazon and Google who have a head start?

HP has already lost market share in the cloud computing server hardware space, losing longtime clients Yahoo and Facebook who now buy their servers from Taiwanese manufacturers. However, HP did recently announce a deal to sell cloud servers to contract manufacturer Foxconn. Really, then, with cloud-computing still in its infancy, there is plenty of room for HP’s spun-off entity to garner market share.

When the split does happen, investors may actually gain a great deal more value just from the event itself, above and beyond the value of the spun-off company. That has happened before, when HP spun-off its test and measurement equipment division Agilent (NYSE: A) in 1999, in order for HP to better focus on its core business of computer hardware. On the first day of trading, Agilent’s stock soared 41%.

However, once the excitement of the split wears off, investors are left with just the hard cold company finances to keep the momentum in the stock going. You can give a new company a great send-off, but then it’s on its own. In Agilent’s case, the stock lost some 80% of its value within the first two years, though it has finally reclaimed all of it over the past 5 years, and is currently trading pretty much where it first started all those years ago.

Will the same happen to HP’s cloud computing spin-off? Or will it have a better experience with independence than Agilent had? Most likely the new cloud spin-off will fair better than Agilent, which deals in the rather mundane world of “bio-analytical and electronic measurement solutions and services to the life sciences, chemical analysis, diagnostics and genomics, communications, and electronics industries”, as Yahoo Finance describes its business.

HP’s new cloud-based spin-off will be jumping into the most exciting thing to happen to computing since the internet itself – the cloud, a whole new way to work and network with multiple people in multiple locations from multiple devices. When HP finally cuts this entity loose, its stock will likely enjoy an initial pop on its debut as Agilent did. But unlike Agilent, HP’s cloud-based spin-off will likely be a keeper in the long term.

Joseph Cafariello