Foolish Forecast: Hewlett Packing Heat

It's been more than three years since Hewlett-Packard (NYSE: HPQ) packed fewer profits into a quarterly earnings report than analysts expected. As we look forward to the impending Q4 report (due out just the other side of this weekend), we're wondering -- how much longer can Hewlett's hot streak run?

What analysts say:

• Buy, sell, or waffle? Twenty-nine analysts still follow HP, down one from last quarter. Fully 22 of them rate the stock a buy, six more a hold, and only one says sell.
• Revenues. On average, they expect to see 11.5% sales improvement, to $27.39 billion.
• Earnings. Profits are predicted to rise 20.6% to $0.82 per share.

What management says:
Hailing "our best revenue growth since 2000," CEO Mark Hurd argued last quarter that HP is "executing increasingly well in creating demand for our innovative products and services, and we are continuing to become a more efficient organization."

What management does:
Bold words, but do they stand up under the cold hard light of an LCD screen full of numbers?

Yes. Reviewing the firm's trailing margins performance, we find that despite two straight quarters of compressed gross margins, HP's operating and net margins continue their northward march. Erstwhile leanest-company-on-the-planet and contender Dell lags HP's operating margin by a good 235 basis points.

Margins	4/06	7/06	10/06	1/07	4/07	7/07
Gross	23.7%	24.1%	24.3%	24.4%	24.3%	24.2%
Operating	6.6%	7.0%	7.4%	7.6%	7.9%	8.2%
Net	4.1%	5.5%	6.8%	6.9%	6.6%	6.8%

Data courtesy of Capital IQ, a division of Standard & Poor's. Data reflects trailing-12-month performance for the quarters ending in the named months.

One Fool says:
But what about the "continuing" part of Hurd's assertion? Wasn't HP near the point when it had wrung from its organization all the cost-cutting efficiencies there were to be had? Well, maybe; and maybe not.

When you consider the operating margins that a few of its rivals produce -- Canon (NYSE: CAJ), IBM (NYSE: IBM), and Apple (Nasdaq: AAPL) each earns an operating margin in the mid- to high-teens, for example -- a Fool might suspect there are ways HP can improve its margins further.

Me, I don't know where HP will find the costs to cut, but the fact is: Quarter after quarter, the firm finds them. Over the past six months, sales have surged 14.6% year over year, and although parts costs are up a bit more than that -- 14.9% -- HP has held the increase in its SG&A to a mere 6.3%. Now that's impressive.

You'll forgive me for taking a potshot at this proven performer (after all, EMC (NYSE: EMC) and Ciena (Nasdaq: CIEN) have let me get away with it). I would like to point out one place a tech firm should not wield the axe: R&D costs.

What I wrote about EMC in October 2006 holds just as true for HP today: "Technology is a constantly evolving animal. To keep 'driving' performance, it needs to be kept fresh. In next week's news, therefore, what I'd really like to see is sales to continue growing at a brisk clip -- but ... R&D spending ramp back up."

It's a sad but true fact of the tech world: If you want your sales to keep growing in the double digits, you can't get away with cutting R&D for very long.

Read more about HP in:

• Foolish Dealbook: Opsware Opts Out
• HP's Pain-Free Future
• Before the Call: Hewlett-Packard Unpacked