There were several objectives HP Enterprise (HPE +7.87%) hoped to achieve following its split with HP (HPQ +3.02%) last November. In addition to unlocking shareholder value and focusing on its core competencies, HP Enterprise wanted to become a leaner, more nimble player in the ever-changing tech industry.
In addition to concerted efforts to minimize overhead, HP Enterprise's focus on services and solutions has already helped it boost operating margin, which in turn is generating substantial increases in cash and equivalents. HP Enterprise's balance sheet is expected to get a boost after spinning off one entire unit and a large portion of another, leaving it with a nice problem: What should it do with all that cash?
Image source: HP Enterprise.
Cash galore
Despite having $15 billion in long-term debt as of last quarter, HP Enterprise will have approximately $9 billion in net cash soon after it completes two deals: the spinoff and merger of its lowest-margin unit, enterprise services, with Computer Science Corp (CSC +0.00%), and a similar move that will spin off its "non-core software assets" and merge them with U.K.-based Micro Focus (MCFUF +0.00%)
Not only will shareholders enjoy an estimated 50% share of the "new" CSC and Micro Focus, but HP Enterprise will also receive a $2.5 billion check from the latter and reduce its expenses even further. Last quarter's $1.97 billion increase in ready cash coupled with $1 billion in cost savings compared to a year ago are trends that show no signs of slowing.
Assuming that HP Enterprise maintains its expense controls and that margins continue to improve as they did last quarter, the aforementioned net cash pile may prove conservative. It's also worth noting that HP Enterprise was able to strengthen its cash position and still repurchase $1.45 billion of its stock, decreasing its shares outstanding by nearly 100 million shares since its split with HP.
What to do, what to do
As noted above, HP Enterprise has been actively buying back shares, but one thing it hasn't done is increase its $0.22 annual dividend payout. As it stands, HP Enterprise pays shareholders a 1% dividend yield, well below HP's whopping 3.45% payout.
HP was expected to continue paying its shareholders a significantly higher yield than HP Enterprise. But raising HP Enterprise's meager 1% payout once the CSC and Micro Focus spinoffs become official -- which in turn will further increase cash flow -- is an option worth considering.
Some analysts are expecting HP Enterprise to possibly double its dividend once the mergers close. That may be overly optimistic, but rewarding shareholders a bit more could -- and should -- be on the horizon. Paying down some of HP Enterprise's long-term debt is a possibility, but in today's low interest rate environment, corporate financing is as close to receiving an interest-free loan as it gets.
Another alternative is not only to continue but actually to increase its already aggressive share buyback initiative. Not all investors are enamored with share buybacks, particularly if the stock has performed as well as HP Enterprise shares have, climbing over 40% in value this year. However, HP Enterprise is still trading at just eight times trailing earnings, so its stock is not exactly overvalued.
One thing shareholders are not likely to see is HP Enterprise actively pursuing a number of high-profile acquisitions. The reason for its break with HP -- and its deals with CSC and Micro Focus -- was to become a leaner company with a laser-like business focus. To turn around and spend its ready cash on mega-acquisitions would be not only counterintuitive, but also counterproductive.
Parting ways with HP to unlock shareholder value has clearly been a successful move for both parties. Soon, HP Enterprise will be in the enviable position of being able to share some of that value, with billions in net cash. HP Enterprise's share repurchase plan hasn't put a damper on its ability to improve its balance sheet. Soon it will also be able to boost its dividend -- and it should.
