In July 2012, James Chanos (popularly called the "King of Shorts"), Kynikos Associates' president and founder, called Hewlett-Packard (NYSE:HPQ) the "ultimate value trap."
Here is an excerpt from what he said:
People who are into will tell you the stock is cheap, there's great free cash flow, have you look at their buybacks, etc.
As you look at the revenue stream, though, it's been flat over a number of years. So has its cash flow. The company is relying on the $37 billion of acquisitions they've done over the last couple of years to look healthy.
According to Chanos, acquisitions kill value. Is that true? Perhaps, when we look at the recent $8.8 billion writedown on the value of the $12 billion acquisition of Autonomy, bought in September last year.
As a side note, something was always fishy with Autonomy. Think about when Oracle (NASDAQ:ORCL) said that Mike Lynch, founder of Autonomy, offered to sell the company to Oracle, although Oracle was clearly not interested "because Autonomy's current market value of $6 billion was way too high." Leo Apotheker, HP's then-CEO, should have taken the hint.
Apart from that, the PC business seems to be drying up over time and there's nothing the company can do about it. "PC makers are succumbing to the fate of those who don't learn from history, not even their own," said Erik Gordon, a professor at the Stephen M. Ross School of Business at the University of Michigan.
Here's an excerpt from the BusinessWeek article that quotes Gordon:
PC shipments tumbled 8.3% in the third quarter from a year earlier, according to market researcher Gartner Inc., and are forecast to fall this year for the first annual decline since 2001, according to IHS iSuppli.
Windows sales fell 33% in Microsoft's most recent quarter, and revenue in Intel Corp.'s key third quarter -- when PC makers typically stock up on chips for the holiday season -- declined sequentially for the first time in more than 20 years.
The news probably won't get better soon.
The growth of the smartphone and tablet market might be inspiring, slated to reach $79.4 billion in 2013, up by 26%. But who can deny the dominance of Apple and Amazon in this market? With the stoppage of the workings on HP's webOS platform, things have gotten more doubtful these days.
As Todd Bradley, HP's PC business head, said:
Obviously the decision by our board to shut down the WebOS business caused us to have a significant delay in our tablets. We are catching up slowly, both with tablets and with convertible devices. […] We are not entering the consumer tablet fray any time soon. We will be doing something next year, but you will not see a consumer tablet from HP before Christmas. You will see convertibles that are focused on how you use the device, keyboard, clamshell. Whether we go into tablets -- there is a whole litany of ARM-based Android, ARM-based Microsoft, there is quite a grid. We will be judicious about how we deploy against application availability in the enterprise, consumerization, and price points, there is a whole host of things we will look at.
A Peek Into the Latest Quarterly Financials
The very first thing that captures my attention is the impairment of goodwill expenses of $9.2 billion and $8.8 billion in the second and third quarters of 2012, respectively. That totals around $18 billion of writedowns in the last two quarters. What was the HP diligence team doing when the acquisition deals were being ratified?
Needless to say, the company sustained net losses of $8.85 billion and $6.65 billion in the last two quarters, respectively. That's a huge strain on the capital account of the company whose market cap is only $23.2 billion to start with. Even if you are going for the non-GAAP numbers, the net profit from operations has gone down to $11.2 billion in a year until October 2012 from $13.8 billion in the year until October 2011. So, are the acquisitions helping grow the revenue? I don't think so.
It's very surprising to see that revenue from corporate investments have gone down by 110% over one year. In an industry where acquisitions are supposed to propel, grow, and establish your business forward in the future, HP's management manages to do just the opposite. Surprising indeed.
If you are interested to know, revenue from the personal systems segment, printing segment, services segment, enterprise servers, storage and networking fell by 14%, 11%, 6%, and 9%, respectively. Only the software segment seems to be doing well, up by 20% on a quarter-over-quarter basis and 14% on a year-over-year basis.
The enterprise servers, storage and networking segment might climb up a bit with the recent introduction of the latest Itanium-based servers that work faster on lesser power. Having said that, it must be noted that the PC vs. tablet market is really going through a lull-type phase at the moment. Topeka Capital's Brian White expects "the tone around the PC market to remain muted over the next few quarters given that we believe Windows 8 will not take off until the second-half of 2013 and the negative secular pressures from the tablet market to continue."
Not only that, the high exposure in the Europe market might also be a reason to worry with regard to the severity of the eurozone crisis. Also, the huge leverage burden might actually bog HP down in the coming years. HP's total debt to equity stands at 126.74%, compared to Lenovo's (OTCPK:LNVGY) 8.06% and Microsoft's (NASDAQ:MSFT) 18%. With the tanking income, leverage can be something to worry about.
To sum up, HP does not seem to be viable stock at the moment.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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