Hewlett-Packard and the Failure of Imagination

One week ago, the tech market went haywire -- and shook Apple (Nasdaq: AAPL  ) to its core.

No, I'm not talking about Steve Jobs's surprise resignation. Although that was certainly big news, it didn't do much to change the company, or hurt the stock price. I'm talking about the midnight fire sale that Hewlett-Packard (NYSE: HPQ  ) held to liquidate its "TouchPad" tablet inventory two Saturdays back.

In response, buyers formed actual lines at Best Buy (NYSE: BBY  ) and Walmart (NYSE: WMT  ) storefronts, while simultaneously mobbing the companies' websites in hopes of scoring a tablet. In the space of about 24 hours of frenzied buying, HP sold out essentially its entire inventory of TouchPads -- reportedly moving 350,000 units last Saturday alone.

But wasn't iPad kicking every other tablet maker's battery compartments up and down Silicon Valley? Didn't it basically leave Research In Motion (Nasdaq: RIMM  ) for dead, drive Dell (Nasdaq: DELL  ) from the field of battle, sue Samsung into submission, and drive HP itself right out of the computer biz?

Well, yes. By all rights, Apple should stand astride the tablet world like a colossus, pounding its chest and bellowing its victory. Instead, it's looking a bit dazed, at least for the moment.

So how did HP turn the tables on Apple and post one glorious day of eye-popping sales numbers? Simple. It dropped its asking price for the TouchPad to $99.

If you can't beat 'em, blitz 'em
CNET took the weekend to ponder the implications of HP's accidental success story. Rather than spend "hundreds of millions" of dollars on a marketing blitz to advertise a new product, why didn't HP just come out and massively undercut the iPad on price? Why not use dollars that would otherwise have been spent on Madison Avenue product pushers to instead create a feeding frenzy of shoppers looking to score a good tablet at a great price?

As one tech analyst put it, when HP's initial inability to make a dent in Apple's market share represented not "a product failure," but "a pricing failure."

The blitz that could have been
Now, the objections to this approach are obvious. It's hard to compete with Apple on price because Apple's bought up the component supplies; it's got great scale of production; it's vertically integrated -- and so on and so on. All these factors make it more expensive for competitors to build a rival product. Estimates suggest that the parts that go into a TouchPad alone cost $300 or more, and that's not counting the cost of building factories to assemble the things, plus the energy cost of assembly, paying workers, warranty costs ... Add in these expenses, and HP probably has to charge $500 or more for a tablet if it wants to earn any profit at all.

But that's just the point: HP doesn't have to make a profit on the hardware. In fact, that's almost antithetical to HP's business model.

Razor and blade, printer and ink
Historically, HP's bread and butter business was not PCs, but printers. With a near-40% market share , it still rules the printer business precisely because it prices its models not to earn a profit on the hardware, but rather to lock consumers into buying its proprietary ink cartridges at steep profit margins.

Rival printer makers like Canon (NYSE: CCJ  ) and Lexmark have struggled to displace HP from its market-leading position, because HP is content to eke out a small profit or even take a loss up front, secure in the knowledge that it will earn back its losses in high-priced ink farther down the road. HP could have done the same thing with tablets. It could have charged an attractive up-front price for TouchPad (maybe not $99, necessarily), and then charged more for TouchPad apps than similar iPad apps cost.

Foolish takeaway
When you get right down to it, I think CNET has a point. TouchPad failed not by having a bad product, but by bringing it to market with bad pricing. More importantly, though, it represents a failure of imagination. HP had everything necessary in its corporate tool chest to make a go of the tablet business, the same way it recaptured the lead in PCs from Dell all those years ago. The company simply had to follow the game plan it laid down for its printer business decades ago.

Instead, HP fumbled the ball. But that doesn't mean that no one will learn from HP's mistake, or take a lesson from the weekend sales frenzy sparked by the appearance of an attractively priced tablet. Tomorrow, I'll take a look at one company that could do just that.

Make sure you don't miss tomorrow's installment! Add Hewlett-Packard to your watchlist now.

The Motley Fool owns shares of Wal-Mart Stores, Best Buy, Apple, and Research In Motion. Motley Fool newsletter services have recommended buying shares of Wal-Mart Stores, Dell, Apple, and Best Buy, and  creating a bull call spread position in Apple and a diagonal call position in Wal-Mart Stores.

Fool contributor Rich Smith does not own shares of any company named above. Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


Read/Post Comments (11) | Recommend This Article (4)

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  • Report this Comment On August 30, 2011, at 2:25 PM, notnokia wrote:

    On the surface, the idea that HP could have sold these at a loss, and made it up on app revenue sounds like it could work. There are a few problems, however. Who would want to pay $5.00 or more for an app that sells for $2.99 on an iPad? That, coupled the nearly nonexistent catalog of apps for WebOS, makes it a very long shot, with a high probability of failure. How many years would HP have to take a loss to gain a toehold, and for what? It's clear that their upper management wants out of the low-margin consumer space.

    If Google tried this with some decent Android devices, it might actually work. They wouldn't make up for it in app sales, but they might someday be able to recoup their losses through ad revenue. Maybe. So far, Android hasn't exactly been a profitable venture for them.

  • Report this Comment On August 30, 2011, at 6:29 PM, stan8331 wrote:

    It's entirely possible that the Touchpad was just a bad idea, meaning HP did not have a means to make it profitable and attractive enough to generate adequate consumer sales. Apple is a very strong competitor. However, once you accept that the project did go forward and the product did get built, the strategy you outline here would have made far more sense than the one HP chose.

    In fact, I'm not sure HP could have chosen a worse strategy. In the mobile world, without a well-developed ecosystem in place, you simply cannot get away with charging a premium price for nice hardware. HP's failure with the Touchpad may not have hurt the company too badly in strictly financial terms, but it shows a startling inability of management to grasp the nature of modern mobile computing.

    I'm thankful to not be a HP shareholder.

  • Report this Comment On August 31, 2011, at 12:45 AM, TMFDitty wrote:

    @notnokia

    You ask: "Who would want to pay $5.00 or more for an app that sells for $2.99 on an iPad?"

    The answer is "nobody." But that's the same answer for folks who buy HP printers because they're cheap, and only later discover the ink is more expensive. Of course, since you've already laid out the money for the printer (or TouchPad ...) you grumble and pay up.

    TMFDitty

  • Report this Comment On August 31, 2011, at 12:47 AM, TMFDitty wrote:

    @stan8331: Agreed. I've yet to hear anyone actually defend the "strategy" that HP actually chose -- HP included.

  • Report this Comment On August 31, 2011, at 3:41 AM, Rjones769 wrote:

    You evidently don't understand the price waterfall. The cost of manufacture (parts, labor and the overhead items you partially enumerate) is just the baseline. Many other factors add to the price of a retail product, over and above the manufacturer's profit, on its way to market.

    HP tried selling the Touchpad at a loss -- remember, they cut the retail price twice before abandoning the thing -- and it still failed to sell because it was buggy, slow, lacking in basic functionality and supported by a paltry handful of developers. That it finally began to sell at $99 retail just tells us what its real value was.

    What you're suggesting is that they should have sold it at a loss and made up for it in volume. That's an old joke, not a new product business strategy.

  • Report this Comment On August 31, 2011, at 10:57 AM, hiddenflem wrote:

    Maybe it's just me but I'm still waiting to wake up to a newspaper article saying that HP is reviving the touchpad. Think about it, they now have a user base of however many people bought the tablet; plus a potential user base much larger if they just produce more--if you look at how much people are willing to pay/sell it for on ebay you still see 16 gb touchpads selling for $250. Surely somebody is interested in harnessing this user base....even if it's not HP.

  • Report this Comment On August 31, 2011, at 10:59 AM, hiddenflem wrote:

    And in reference to the comment above, while it's true that you can't make up for it in volume, there are a ton of accessories that could have been profitable for this. The touchstone was probably the most innovative part of the tablet, and something that is cool enough to wonder: why didn't apple think of developing it... Add marketing, pre-installed software, potentially office-type software that could be developed for their operating system and you could make money off that.

  • Report this Comment On August 31, 2011, at 11:18 AM, TMFDitty wrote:

    @Rjones769: That's not *exactly" what I said. What I said was they should have sold it at a loss and made up for it in volume ... of apps and other add-ons once they had created a market for the product.

    Your characterizing the product as buggy, slow, etc., is an opinion -- albeit one that many reviewers share. Your pointing to a dearth of developers is a fact, however -- and one that could have been cured by getting more TouchPads in the hands of consumers, faster.

    TMFDitty

  • Report this Comment On August 31, 2011, at 11:19 AM, TMFDitty wrote:

    Right. What hiddenflem said.

  • Report this Comment On August 31, 2011, at 4:53 PM, hiddenflem wrote:

    And sure enough today the news came out that they are reviving the touchpad...if only for just 1 production run more... perhaps...

  • Report this Comment On August 31, 2011, at 6:15 PM, iridisa wrote:

    I think if they hadn't put their webOS on it they may have had a chance. A great deal of the people who bought the fire sale touchpads are going to root it and put Android on it. That's what I wanted to do but I couldn't get my hands on one. It would have been sweet.

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