OUR TAKE
The Motley Fool Take on Friday, February 20, 2004
HP Battles Dell

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One day, we will promise "not another word about Martha Stewart," but not today. Integrity is a big part of Foolishness, but no one ever said as much about Wall Street. Heck, one might even debate the point at which a client -- say, by acting on a tip from a broker -- crosses the line from naughty to criminal.

Such are the gray areas where lines get blurred. For instance, today in court a "close friend" quoted Martha on the subject of ImClone insiders having dumped their stock back in December: "Isn't it nice that brokers tell us these things?" Now she admits, "I do not know if that statement was made by Martha, or if that was just a thought in my mind." Really, is there any need to split hairs?

In today's Motley Fool Take:

HP Battles Dell

By Rick Aristotle Munarriz (TMF Edible)

Proving that last week's positive results out of Dell (Nasdaq: DELL) were no isolated fluke, Hewlett-Packard (NYSE: HPQ) came through with healthy top-line results last night. Well, at least revenues for the personal computer division jumped 20%.

The downside is that the division's robust $6.1 billion in revenues produced just $62 million in operating profits. There's no reason to cheer margins when the company's arms are trembling just to get its chin above the 1% bar. Yes, that was an improvement from prior periods, but does it really come close to justifying the acquisition of Compaq?

HP's flagship imaging and printing business posted operating profits of $968 million on $5.9 billion in revenues. That's more like it. Even the services subsidiary and enterprise systems operations produced higher operating profits despite bringing a lot less to the table in terms of revenues.

In sum, HP earned $0.35 a share on $19.5 billion in first-quarter revenues. The company is looking to hold the line sequentially, expecting to earn $0.34 a share on $19.2 billion to $19.6 billion in revenues, and is still on track to earn $1.43 a share in 2004. If it does so, the stock trades at just 17 times this year's earnings.

Compared to Dell at nearly 30 times earnings or Gateway (NYSE: GTW), which isn't putting up any profits at all, it's a relative bargain in an improving sector. In fact, Dell commands a larger market cap despite earning slightly less and selling significantly less. And if Dell has partnered with Lexmark (NYSE: LXK) to slow HP's dominance in printers, well, HP is growing its desktop and laptop business at a faster clip. 

Investors clearly aren't sold -- yet. To close the deal, HP simply must improve its operating margins on its personal systems. That's the one missing piece that's keeping CEO Carly Fiorina's acquisition of Compaq from earning its promised synergy.  

Longtime Fool contributor Rick Munarriz wrote this story on his HP computer. He does not own shares in any company mentioned.

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A Costly Tech Buyback

By Jeff Hwang

Whoever said stock options don't cost anything?

After the bell Thursday, Texas Instruments (NYSE: TXN) announced that its board had authorized the repurchase of up to 21 million shares. The purpose? "To neutralize the potential dilutive effect of shares expected to be issued upon the exercise of stock options."

That's it.

We tend to applaud repurchases as an efficient means for companies to return value to their shareholders -- more efficient than, say, paying a taxable dividend. However, a share buyback only creates value when your company pays, at worst, fair value for the shares. That's not the case here.

Texas Instruments isn't out to create shareholder value by purchasing undervalued shares. Its stated purpose is to neutralize potential dilution, but with shareholder cash. If nothing else, this tells us that stock options definitely carry a cost, and possibly worse.

We've discussed that very issue in the past. Among others, Cisco Systems (Nasdaq: CSCO), Microsoft (Nasdaq: MSFT), and Dell Computer (Nasdaq: DELL) have been guilty of buying back overpriced shares expressly to offset option-related dilution. When a company overpays for its shares, it destroys value.

We can debate whether Texas Instruments' shares are overvalued. Either way, selling (options) low and buying back (shares) high involve very real costs that investors should be aware of.

Fool contributor Jeff Hwang owns none of the aforementioned companies. 

Quote of Note

"Never interrupt your enemy when he is making a mistake." -- Napoleon Bonaparte

Pixar on the Block?

By Rick Aristotle Munarriz (TMF Edible)

Yesterday's sour market couldn't rain on Pixar's (Nasdaq: PIXR) parade. The stock gained $2.30 on a well-circulated rumor that Sony (NYSE: SNE) was readying a buyout offer.

Of course it is. And I'm the third Gardner brother.

Let's think about this for a minute. Pixar just broke off talks with Disney (NYSE: DIS) and is now savoring the potential of doubling its profits on features come 2006. Why would Pixar want to be shackled just as it's about to be emancipated?

It's ludicrous. The fact that both Pixar and Sony shares rose yesterday says it all. Sony would be getting a bargain, and the market knows it. Pixar shares had little choice but to climb as investors bought the rumor. Come to think of it, with Apple's (Nasdaq: AAPL) Steve Jobs owning a majority stake, it would only take a firm handshake to close the deal.

Maybe that's how the rumor got started. Movie studios like Time Warner (NYSE: TWX), MGM (NYSE: MGM), and Sony are already jockeying to be Pixar's new partner for distribution after its deal with Disney expires. Pixar's appointment calendar is going to be chock full of heavies, and it's even possible that the company may get a marriage proposal or two along the way.

But why would Pixar say yes? Its balance sheet is more cash-rich and debt-free than are those of the leveraged media giants. It clearly has something to prove to Disney, having walked away from their joint production agreement. Why would Pixar be looking for a rebound when it's an eventual slam dunk?

Pixar is a dynamic company. Its proven history and fat margins attracted our own David Gardner when he recommend the stock in his Motley Fool Stock Advisor. Fun as they are, rumors tend to be false, but the good ones offer some fathomable sense of possibility. This one doesn't.

As for David Gardner, he ain't heavy. He's also not my brother.  

Longtime Fool contributor Rick Munarriz owns all of the Pixar releases on DVD. Yes, he owns shares of Pixar, too -- and Disney.

Discussion Board of the Day: Pixar

Do you think Pixar is shark bait? Was the company wrong to end distribution talks with Disney? What would be a fair buyout price if Pixar were on the block? All this and more -- in the Pixar discussion board. Only on Fool.com.

More on Fool.com Today

Everyone's always looking for new investing strategies. Rick Munarriz has a couple up his sleeve with Five Stocks Under $10.... What? You want more strategies, you say? Whitney Tilson's got some Bearish Options Strategies worth the read.... And last but not least, we have the final installment of David and Tom Gardner's interview with Overstock.com CEO Patrick Byrne, who dishes out words to live by in Two Lessons From Buffett.

In other news:

For a list of all our stories from today, see our Today's Headlines page.

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