If you're reading this, you likely already know that computer company HP (HPQ -0.25%) struggled last quarter. All told, the company reported a 25% year-over-year tumble in the number of computers it sold during its third fiscal quarter, which ended in July.
Sharply higher prices couldn't fully offset that volume weakness. Fiscal Q3 revenue of $14.7 billion was down 4.1% year over year, falling short of analysts' expectations for revenues of $15.6 billion. Earnings of $1.04 per share were in line with expectations and up slightly versus year-ago figures. Those 2021 numbers, however, aren't a particularly tough comparison. Perhaps worst of all, CEO Enrique Lores foresees continued weakness ahead; the company has dialed back its full-year profit forecast.
The 8% sell-off of HP stock that immediately followed the release of its fiscal third quarter numbers has since widened to nearly 11%, dragging the stock to 30% below its June peak.
That big pullback, however, translates into a buying opportunity despite the bearish outlook for the personal computer business. HP could get out of the computer business altogether right now, in fact, and the stock would still arguably be worth more than its current price. Why? Because printers and printing supplies are a much bigger, better, and more resilient business for this company than the market is giving it credit for.
Revenues versus profits
Yes, personal computers are HP's biggest business by revenue. It did $10.1 billion worth of personal systems business last quarter alone, accounting for 69% of its total top line. The other 31%, of course, is printing related. Those proportions are in line with the company's long-term norms.
Data source: HP Inc. Chart by author.
What's still largely underappreciated about HP's business mix, though, is that profit margins on computers are notoriously thin, while profit margins on printers and printing supplies are surprisingly wide. Although HP doesn't provide these particular details in its disclosures or filings, a bit of number-crunching on its segment-specific revenues and operating income rates tells the tale.
Data source: HP Inc. Chart by author.
HP typically earns more from its printing business than it does from its PC business. The surges of computer purchases at various points during the pandemic briefly shifted this dynamic. For the better part of this year, though, the dynamic has reverted back to its norm.
But that's not the bigger point to be made here.
Why HP shares are undervalued
Through the first half of the current calendar year, HP's printing arm has turned an operating profit of just under $2 billion. Given its history, there's no reason to think this unit will stray far from its usual $3.6 billion annual figure, either this year or next. At the same time, thanks to the recent slowdown in PC sales, HP's computer business is looking like it's on track to revert back to its typical annualized profits of around $3.0 billion.
Here's the thing: With a market cap of just under $30 billion, a trailing price-to-earnings ratio of only 5.1, and a forward price-to-earnings ratio of only 6.5, the market has arguably already priced in a complete, continued meltdown of the HP's personal computer business, and then some. Put another way, even after stripping out non-operational expenses like taxes and interest payments, HP's printing business alone could still support a stock price above its current one near $28.
And the printing business is certainly a more resilient profit center. Whereas people and businesses typically replace computers only once every few years (four years is the ballpark average), companies and consumers who regularly print documents need new toner and ink year-round.
This demand isn't exactly imploding either.
Though the advent of the PC once came with a great deal of hype around the idea of the "paperless office," technology market researcher IDC estimates the world printed a whopping 2.8 trillion documents in 2020, down only a modest 14% from 2019's levels, even amid the stay-at-home mandates prompted by the pandemic. While the number of documents printed worldwide every year has been slowly sinking for some time, shallow single-digit declines are the norm here, and will continue to be the norm through 2025, according to IDC.
Connect the dots. PC headwinds or not, HP's printing business alone makes the stock worth a shot at its current value. The key to its share price recovery will be a wider recognition among investors of this reality, which could take time to develop.
