Hewlett-Packard (HPQ +2.96%) has had a turbulent ride over the past year. Its share price fell from $40 per share to just $12 per share two years ago, as sluggish growth in personal computers and technology hardware caused its fundamentals to deteriorate. Since then, HP has enjoyed a dramatic recovery, and almost trades near $40 per share again.
But this recovery has been a bit hollow. Instead of effectively turning its business around by investing in new areas, HP's recovering profits are largely the result of job cuts and share buybacks. While these have boosted earnings and the stock price, HP is still at risk of falling behind in the technology world.
Counting on buybacks and job cuts to do the heavy lifting
HP was hit hard by its reliance on hardware, including personal computers and printers. It has obviously come a long way back, thanks to significant restructuring, but the company's turnaround is not yet complete. Recently, HP announced that it would lay off 5,000 workers as part of its planned corporate split into two companies. This brings the total number of job cuts under CEO Meg Whitman to 55,000.
These job cuts have reduced expenses, which helps profitability. In addition, HP spends billions of dollars on share buybacks, which also boosts earnings per share. To that end, the company bought back nearly $2 billion worth of shares over the first three fiscal quarters of this year. Hewlett-Packard paid an additional $875 million in cash dividends to shareholders in this time.
While investors should undoubtedly be pleased that HP pays a nice dividend and that earnings are recovering, they should be concerned about its underlying business prospects. HP has been left behind by the new age of technology. The company remains reliant on printers, which are a relic, along with personal computers, which have lost prominence as consumers and businesses increasingly opt for tablets and mobile devices for computing. That's why, despite diluted earnings per share growing 2% over the first nine months of the year, total revenue was down less than 1% in the same period, year over year.
When compared to the amount of cash HP spends on returning cash to shareholders, its capital expenditures leave something to be desired. The company spent $2.8 billion on capital projects over the first three quarters of the year. HP has promised that it will make some groundbreaking advances in new product areas, such as the cloud. But its future plans still overwhelmingly include printers and PCs, which should leave investors skeptical. Whitman as much as admitted this on the company's last conference call, saying the personal systems market is still contracting.
On the call, management said it was making progress with HP Helion, Hewlett-Packard's major cloud initiative. But the company didn't give specifics. One bright spot is that HP generated double-digit revenue growth last quarter from HP CloudSystem, an integrated life-cycle management solution for cloud services.
Aside from that, HP doesn't have a lot going for it in terms of high-growth businesses to pursue. The company's plans for earnings growth going forward still seem focused on cost reductions and share buybacks.
HP is underinvesting
Hewlett-Packard needs to accelerate investment in new, high-growth areas. Given its strong financial condition, this is certainly possible. At the end of the last quarter, HP held $14.4 billion of cash and equivalents. This was up 19% from $12.1 billion nine months ago. All this cash is doing very little for shareholders right now. That money is earning almost nothing, and is not being put to productive use sitting idle on the books.
Instead of hoarding cash and counting on share buybacks and expense reductions to produce earnings growth, HP should increase investments in growth. The company needs to accelerate investment in areas outside of printing and computing hardware in order to produce better top-line results.
