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Changing Business Mix At HP And Dell

Posted on Monday, Feb 22nd 2010

Over the past decade, IBM (NYSE: IBM) has exited commoditized businesses and shifted its focus to high-margin software and services. HP is taking a different path of diversifying its portfolio to capitalize on the trend towards converged infrastructure products that integrate storage, networking, servers, and management software. In 2008, HP acquired EDS for $13.9 billion, a move that strengthened its services business and last year, it announced its plans to buy 3Com for $2.7 billion to fortify its networking arm in order to take on Cisco. Cisco has long been a preferred supplier for HP, but Cisco’s new unified data center strategy has turned the relationship sour. Cisco has now said that it will no longer renew its relationship with HP.

With both companies trying to encroach on each other’s territories, this was perhaps inevitable. As a partner of Cisco, HP had access to proprietary information such as product roadmaps and partner profitability initiatives. Such information will and should no longer be shared as the two companies are now direct competitors. IBM is still Cisco’s partner, but it has made alternative arrangements with Brocade and Juniper as well.

In my recent post on IBM’s business remix, I said I will review HP’s business remixing. Of HP’s total revenue of $114.5 billion in 2009, about 47% came from the Enterprise Business that includes Services, Enterprise Storage and Servers (ESS), and Software. But more than half of its revenue still comes from printers and PCs. The company’s services business, which accounts for about 30% of revenue, grew 65% while all other segments declined. Should HP follow IBM’s example in exiting the declining business of making PCs, may be even printers?

HP is neither making any new acquisitions in these two areas, nor has it given up. Over the course of the year, with the release of a steady stream of products, HP has not only reaffirmed its position as the worldwide leader in PC market share but also captured the #1 position in the U.S. enterprise market. HP says that it is creating innovative products and developing new channels to connect with its customers, particularly in the PC business. It is about to launch a new tablet, and rumors suggest that it will be adjusting the price of this device to match that of Apple’s iPad. Dell also plans to launch a new tablet called Mini 5 based on an unreleased version of Android. The fierce competition in the PC business keeps margins down, and HP should either get out of it or get into convergence devices with a Palm or RIM acquisition. Dell should also get into convergence devices by acquiring one of those two companies.

HP posted strong sales in the first quarter driven by the recovery in IT spending and demand for hardware such as printers, computers, and servers. Q1 revenue was up 8% to $31.2 billion and net income increased 25% to $2.3 billion or $0.96 per share. HP exited the quarter with $13.7 billion in gross cash after repurchasing shares for $2.7 billion and paying dividends of $189 million. Q4 coverage is available here.

Imaging and Printing Group (IPG) revenue increased 4% to $6.2 billion. Personal Systems Group (PSG) revenue increased 20% to $10.6 billion with Notebook revenue up 25% and Desktop revenue up 16%. Services revenue decreased 1% to $8.7 billion. Last year, Services segment grew 116% as a result of the EDS acquisition. HP Software revenue was flat at $878 million and ESS revenue was up 11% to $4.4 billion.

For the second quarter, HP expects revenue of $29.4 billion to $29.7 billion and GAAP EPS of $0.89 to $0.91. It also increased its 2010 outlook. The company now expects revenue of $121.5 billion to $122.5 billion, up from its previous estimate of $118 billion to $119 billion. 2010 EPS is expected to be $3.79 to $3.86.

Dell, on the other hand, is also expanding its Services portfolio with its $3.9 billion acquisition of Perot Systems and Kace Networks, a systems management appliance company, for an undisclosed amount this month. Services account for about 11% revenue, storage 4%, software 18%, servers 11%, mobility 31%, and PCs 25% of its total revenue of $52.9 billion in 2009. Net income was down 42% to $1.43 billion in fiscal year 2010 and 5% to $334 million in the fourth quarter. Q3 coverage available here.

Q4 revenue increased 11% y-o-y and 16% q-o-q to $14.9 billion. Services revenue increased 51% as a result of the Perot acquisition while Mobility was up 16% and Desktop PCs was down 3%. Software was flat while Servers were up 26% and Storage 11%.

Dell is currently trading around $13, and its 52-week high was $15.27 on August 24. Market cap is about $26 billion while HP’s is $120 billion. HP is trading around $51 after hitting a 52-week high of $52.95 on December 31. With Mark Hurd at the helm, HP has managed to perform well even in the low-margin businesses of PCs, but for how much longer?

Chart for Hewlett-Packard Company (HPQ)

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