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Mark Hurd Continues To Run HP With A Sure Hand

Posted on Wednesday, Nov 25th 2009

The recent move by HP to acquire 3Com is the best possible move to attack Cisco. The networking sector is dominated by Cisco, and for a long time I have advocated the need for consolidation to threaten Cisco’s dominance.  Let’s take a closer look at the acquisition and at HP’s latest quarterly results.

On November 11, HP announced its plans to buy 3Com for $2.7 billion. 3Com, which has annual revenue of $1.3 billion was founded in 1979, five years before Cisco came into the picture. It was a giant in the networking industry in the 1990s, and due to the fatal mistake of pulling out of the enterprise market, it lost its strong position to Cisco and became a shadow of its former self. Read my interview with Eric Benhamou for a detailed history. However, with a well-executed turnaround and its low-cost Chinese structure, 3Com has become a strong competitor for Cisco in enterprise networking along with HP ProCurve. With this acquisition, HP will be expanding its portfolio and strengthening its position in China. During the conference call, president and CEO Mark Hurd said, “The best technology we saw on the planet to complement our portfolio was 3Com,” and this acquisition I feel is the best form of consolidation of the dwarfs against the networking giants.

Two years ago, private-equity firm Bain Capital Partners LLC almost bought 3Com for $2.2 billion, but the deal fell through due to objection from the U.S. government security panel. But now, with HP’s backing, 3Com can again challenge Cisco. According to a recent report in the Wall Street Journal, HP and 3Com would control 40% of the networking market versus Cisco’s 54%, and in terms of revenue they would have 10% share vs. Cisco’s 70%. In China, Cisco and 3Com together account for about 70% of the enterprise networking market share with 3Com controlling 32% of the Ethernet switch market and 33% of the router market.

Now, let’s take a look at its latest financials. This week, HP reported its fourth quarter and fiscal year 2009 results that narrowly beat estimates. Fiscal 2009 revenue was down 3% to $114.6 billion and net income was down 8% to $7.7 billion or $3.14 per share.

Q4 revenue was down 8% to $30.8 billion and net income was up 14% to $2.4 billion or $0.99 per share. Excluding charges, net income was $2.8 billion or $1.14 per share. Q3 analysis is available here.

By segment, all segments except Services and HP Financial Services reported revenue declines. HP Financial Services (HPFS) revenue was $726 million, up 5%.Services revenue increased 8% to $8.9 billion with operating profit of $1.4 billion, up from $945 million last year.

HP Software revenue declined 16% to $967 million with Business Technology Optimization revenue declining 16%. HP’s Enterprise Storage and Servers (ESS) revenue was $4.2 billion, down 17%.

Personal Systems Group (PSG) revenue declined 12% to $9.9 billion, but shipments increased 8% and it maintained its leading position in the worldwide PC market with a market share of 20.2%, up from 18.9% last year while Acer took over the No.2 position from Dell. Dell also lost out its top slot in the U.S. market to HP. The release of Microsoft Windows 7 software has led to improvement in PC sales. Revenue from Notebooks declined 8%, while Desktops declined 16%.

Imaging and Printing Group (IPG) revenue declined 15% to $6.5 billion. The printing division, the company’s main stream of revenue continued to struggle with printer unit shipments decreasing 20%. However, company expects printer division to recover as it expects supplies growth to improve with economic trends and employment levels.

Q4 revenue from the Americas declined 3% to $13.6 billion, EMEA declined 17% to $11.7 billion and Asia Pacific declined 1% to $5.4 billion. International markets accounted for 64% of total revenue in the fourth quarter, with revenue in the BRIC countries declining 4% and accounting for 10.0% of total HP revenue.

Gross margin was 23.7%, up 60 basis points. Non-GAAP operating expenses were down 16% as the company continued to improve its cost structure. During the quarter, HP generated $3.4 billion of cash flow, bought back shares worth $2.1 billion, paid down $1.5 billion in debt, and ended the quarter with total gross cash of $13.4 billion. HP could intensify its attack on Cisco with the acquisition of Brocade which would strengthen its data canter portfolio and Polycom, which would add to its presence in Telepresence.

For the first fiscal quarter of 2010, HP estimates revenue to be $29.6 to $29.9 billion, GAAP EPS between $0.90 and $0.92, and non-GAAP EPS between $1.03 and $1.05. HP estimates full fiscal year 2010 revenue to be $118.0 billion to $119.0 billion, up from its previous estimate of $117.0 billion to $118.0 billion. FY 2010 GAAP EPS is expected to be $3.65 to $3.75, up from its previous estimate of $3.60 to $3.70, and non-GAAP diluted EPS to be $4.25 to $4.35, up from its previous estimate of $4.20 to $4.30. These estimates do not reflect the potential impact of the recently announced acquisition of 3Com Corporation.

HP is currently trading around $50 with market cap of about $118 billion. It hit a 52-week high of $51.43 on November 17. I recently completed an interview series with HP Labs Director Prith Banerjee, in which we discussed HP’s Innovation Research Program. Through this program, funds proposals from academia that are focused on HP’s projects. This is an innovative way to effectively use academic resources for HP’s research, and I like the way that Mark Hurd is running the company.


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