Everything you knew about personal computers has changed, so everything you thought about computer companies is probably wrong.
People are more likely to carry their computers with them today: maybe it’s a notebook PC, maybe it’s a tablet, or maybe it’s a smartphone. Whatever form they take, these devices are much more portable and much more personal than they were in the past.
Desktop computers — and even powerful laptops and notebooks — are not going away. They’re actually returning to the place from whence they originated. They are once again being relegated to work-related tasks that require text input.
Nobody is building new software on a tablet. Nobody is designing machinery or architecture on a smartphone. Nobody is writing the great American novel on a touchscreen.
The very foundations of personal computing, however, all belong to the mobile devices. Communications, research, personal finance, education, and entertainment are most likely to be handled by a device that weighs less than a pound.
Screens and sensors have taken over our personal lives and left the heavy work to the keyboards and peripherals. What’s more, documents are being shared and used in digital formats rather than being printed out. Thanks to education management systems, college students can submit their work digitally without having to print it out and hand it in.
One name should immediately come to mind when thinking about personal computers and printers: Hewlett-Packard (NYSE: HPQ). HP has held a top five position in global PC sales since 1996 and has consistently ranked either the best or second-best selling PC company since 2001. It’s also led the U.S. printer market by a wide margin for over a decade.
A Big Fish in a Shrinking Pond
But Hewlett-Packard has had declining sales for eleven quarters straight. This decline is an accumulation of all of the company’s businesses combined: PCs, printing, servers and software, and enterprise systems.
Even though HP leads the market in most of its businesses, the market has matured and is contracting.
Revenue peaked in 2011 at $127 billion and has dropped every year since. Last year, HP’s revenue was down 6.7% against 2012 and 12% below its 2011 peak. The company’s annual revenue growth trajectory is negative 3%.
As a result, the company has squashed its attempts to branch out into new areas and is simply shrinking to fit the mature market.
Late in 2013, the company announced it was cutting back a massive 34,000 jobs in a broad restructuring plan. Two weeks ago, it added another 11,000 to 16,000 jobs to that total. This additional cutback is expected to add a billion dollars to the savings from the previous round of layoffs to a total of between $4.5 and $5 billion.
This goes against what CEO Meg Whitman said in 2012 when she took the helm at HP.
“We believe that 2014 will be the year you will see real recovery and expansion at HP. You should see every business unit recover and grow. Our investments in R&D and IT will begin to kick in. And we will have demonstrated an ability to manage costs in line with revenue,” Whitman said at an analyst’s meeting at the time.
Growth is not in the cards for HP, but its long-term leadership position means strength as its markets consolidate.
Accepting Fate
In seven years, Hewlett-Packard has had six chief executives and just as many shortsighted attempts to grow revenue outside of the mature markets where it leads.
First things first… HP completely missed the boat on the smartphone and tablet revolution. Even though the company was an early entrant in pocket PCs and Palm Pilot-like organizers with the iPaq back in the ’90s, it never translated that early development into smartphones.
Instead, it concentrated on dominating in PCs and continuing its runaway lead in its cash-cow printer ink business. The company attempted to M&A its way into mobile device market share by buying the struggling but innovative Palm Inc. for $1.2 billion in 2010.
Leadership managed to confound this particular effort. Short-term CEO Leo Apotheker looked at spinning off HP’s low-margin PC business and canceling any smartphone and tablet aspirations, while branching into enterprise software, an area in which he gained a lot of experience during his tenure leading SAP.
Unfortunately, it all went awry in a storm of half-execution.
Within sixteen months of acquiring Palm Inc., HP shut down mobile device production, open-sourced its webOS mobile operating system, and spun off the rest of the properties into a new company called Gram. The company’s acquisition of British enterprise software company Autonomy was written down to the tune of almost $9 billion, and nothing was done to change the PC division’s perilously narrow margins.
When Whitman stepped in as CEO, HP was in exactly the same position it was three years before, just with less cash. Printing remained a cash cow, but PC was showing less-than-desirable profits amid a broader market retraction.
At the Computex computer show in Taiwan, HP debuted its new generation of SlateBook PC, which is essentially a mobile tablet in clamshell form. It runs on the Android operating system, has a 14” touchscreen, and includes internal specs closer to a tablet than a notebook. This addresses a small segment of customers who demand a mobile device with a full PC-like experience but also creates a product without the licensing fees of Microsoft Windows.
Though the margins on this product are unknown, the software cost might be significantly decreased by using the open-source Android operating system as opposed to Windows 8 or Google’s Chrome OS. HP has said Android is cheaper to implement both in licensing and in hardware compliance.
If the company can use Android to improve margins on its PCs, this might prove to be a beneficial route for the company to take.
Warning: Low Ink
The prevalence of smartphones and tablets doesn’t just cut into PC sales; it cuts into the volume of material printed on home printers.
It’s not something people tend to think about, but with a portable screen, there are dozens of things we no longer need to print out.
For example, we no longer need to print out turn-by-turn directions or maps because we have GPS and direction apps on our smartphones. We don’t have to print out recipes to use in the kitchen because we can just pull them up on our tablets.
We don’t have to print photographs of our friends and family because we can view them on Facebook at any time. E-tickets and coupons can be redeemed directly off our phone screens and don’t need to be printed.
There are hundreds of examples.
Printing is a major cash cow for HP that profits by charging exorbitantly high prices for diminishing quantities of printer ink. The less we print, the worse off HP will fare overall.
HP predicted this trend more than a decade ago, and attempts to de-prioritize printing have failed. Veteran head of printing Vyomesh Joshi left the printing division in 2005, and Erstwhile CEO Carly Fiorina attempted to merge PC and printing businesses into a single unit to improve efficiency. The move was undone by subsequent CEO Mark Hurd.
Like HP’s attempt at mobile, one CEO ended up undoing the moves of the prior, and printing remains a core business to HP, even if it hasn’t stepped into the future with 3D printing.
Analysts Say Buy
With earnings per share coming in at the high end of guidance, an impressive $3 billion cash flow, and market leadership in most categories in which it participates, HP had an excellent quarter. Though it came in behind Lenovo in market share, its personal systems segment actually increased its revenue by 7% over last year.
As such, Citigroup recently gave it a “buy” rating:
“We see meaningful upside to share price given 1) cost savings are underappreciated, particularly after the announcement on additional headcount cuts, 2) upside to free cash flow estimates, 3) low downside risk to revenue and margin expectations for FY14-15, and 4) valuation is compelling at 8-9x reflecting negative sentiment with less than 45% Buy ratings.”
Fourteen analysts have given HP a “buy” rating, while eleven have given it a “hold” rating.
Goldman Sachs’ Bill Shope, on the other hand, gave it a “sell” rating, saying he expected revenues to fall to $107 billion in FY 2015:
“Serial restructuring cannot solve HP’s secular challenges,” he pointed out, “particularly following years of underinvestment.”
Shope’s point is that HP has consistently missed the boat on new trends and that the old PC industry faces major consolidation in the coming years.
Market research firm IDC tracked the worst sales decline in the history of the PC market between the first quarters of 2012 and 2013, dropping nearly 14%. Analysts at Wells Fargo expect major market consolidation within the next five years.
With HP’s current trajectory, a broader market consolidation could end up being helpful, but its more likely that it will force HP to try once again to acquire its way out of relying on a cash cow.
