Why Today's Pain Can Be Tomorrow's Gain For HP

It's likely to be a long road for HP's quest for growth.

May 27, 2014 at 9:00PM

Tech behemoth Hewlett-Packard (NYSE:HPQ) seems to have put up a decent performance when the company recently declared its results for the fiscal second quarter. While HP's net income rose by 18% to $0.66 per share, the company's revenue fell by not more than 1% and ended up being just $100 million short of analyst estimates .

But then, what really unnerved a section of analysts was the rider that accompanied the results, as HP simultaneously announced an extended series of workforce reductions in an obvious effort to prop up future profitability. Although the market welcomed the news with a 5.5% gain in the stock price, the very fact that HP has had to resort to such a step does raises questions about the company's ability to sustain its core businesses in the face of steadily declining demand. It's time to delve a little deeper into HP's present scenario.

Having a good time with PCs
One of HP's core businesses, the personal systems division -- the one that includes computers -- didn't fare badly at all, as revenue rose by a healthy 7.4%. However, it was Microsoft's termination of Windows XP support as of last month that played a big part in the improved performance, leading to a 12% rise in sales of business-segment PCs. Meanwhile, the 2% decline in PC sales in HP's consumer segment was a more accurate portrayal of the fast-fading PC industry, as data from research firm IDC yet again revealed a 4.4% decline in global PC shipments for the quarter ended April 2014.

While HP will see a boost for a while as the huge number of computers running XP get replaced, the company could face a serious problem once customers have finished upgrading their systems.

And a not-so-good time with servers
HP's enterprise-computing group, the one that includes servers, put in a disappointing performance, as revenue dipped by around 2% during the second quarter. That's bad, considering that the division accounts for almost 40% of HP's overall operating profit.

HP's position as the No. 1 player in the global server market has already been under threat from two fronts. First is the emergence of Chinese computing giant Lenovo, which recently acquired the low-end server business of fellow industry peer IBM (NYSE:IBM). The second and more compelling challenge is cloud computing, which has become increasingly popular within the enterprise segment since it eliminates the need for expensive on-site hardware.

The company has tried to respond to the situation by entering into an agreement with Foxconn, a Chinese third-party manufacturer, to produce a range of cloud-optimized servers. That's likely to be a clever move on HP's part, given the increasing demand for such products among companies that store a large amount of their data on the cloud.

Raising its hopes on the cloud
On a broader scale, however, HP has announced HP Helion, its own $1 billion cloud computing initiative. While the company knows this might be the death knell for its own server division, its options are pretty limited as fellow competitors IBM and Cisco Systems (NASDAQ:CSCO) have already jumped onto the cloud bandwagon. While IBM is investing $1.2 billion in an effort to build as many as 15 new data centers worldwide by year's end, Cisco has announced plans to make a $1 billion investment as part of its own initiative to build up Cisco Cloud Services, a portfolio of cloud-based offerings.

A three-dimensional look at printing
Printing, HP's other important division, also put up a poor show during the quarter, as revenue fell by 4%, compared with a roughly 2% decline during the prior period. As the increasing popularity of mobile devices has lessened consumers' need to print, HP is pinning its hopes on a foray into 3-D printing, starting around June. Given the company's current dominance and leading market share in 2-D printing, HP is widely expected to have the necessary technology and distribution networks in place to make it big in the still-nascent world of 3-D printing.

Foolish final thoughts
It's difficult at this stage to predict the general direction HP is headed in for the near future, and the recent announcement of job cuts has only added to the confusion. Even then, CEO Meg Whitman's task of steering HP toward growth is sure to get more difficult once its personal-systems and enterprise-computing divisions feel the full impact of the slowdown in the PC industry and the emergence of cloud computing.

Still, the fact that HP's full-year earnings guidance is still very much in line with analyst estimates raises hopes about the company's strategies to maintain future profitability. This is likely to be a wait-and-watch story at least till the end of this year.

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Subhadeep Ghose has no position in any stocks mentioned. The Motley Fool recommends Cisco Systems and owns shares of IBM and Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools don't 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.

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