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Last year, Hewlett-Packard (HPQ) acquired Autonomy for $10.1 billion in an attempt to move into the higher margin software industry. Autonomy promised to be an evolution in data manipulation in how it handles unstructured data sets. This year, HP had to write down nearly all of the money they paid for Autonomy, $8.8 billion to be exact, of which it has alleged that "more than $5 billion" was due to "serious accounting improprieties" practiced by Autonomy's management. HP still considers Autonomy an integral part of the company and is released the first software from Autonomy at the Discover Conference last week.

The issue has now been taken up by the SEC in the U.S. and Serious Fraud Office in Britain. HP has not released the details yet but is expected to do so with its earnings report due on 17th December. HP claims that Autonomy misled potential buyers as well as investors by committing various illegal acts that include fictitious sales and recording its loss making hardware sales, which account for 10% - 15% of Autonomy's revenues, as software. On the other hand Autonomy's founder and former CEO Mike Lynch has strongly rejected all allegations and has launched a website -- autonomyaccounts.org - that represents himself and Autonomy's former management team.

So far, HP has not filed any lawsuit but their investors have gone to court against HP's board, its auditors, including Deloitte, and Mr. Lynch. Meanwhile Moody's has cut HP's credit rating to Baa1, three steps above junk, with a negative outlook amid serious management issues and the falling levels of PC and printer supplies demand. That HP's due diligence committee missed this error comes as little surprise when one thinks about the unique levels of dysfunction that existed at the top of the company during the last two CEO's, Mark Hurd and Leo Apotheker, the latter of whom made the acquisition of Autonomy the defining moment of his tenure.

I feel sorry for Meg Whitman, frankly.

HP, under former management, has a storied history of overpaying for acquisitions and then writing them down. The company acquired Electronic Data Systems Corp (EDS) for $13.9 billion in 2008 and then reduced its value by $8 billion in the third quarter of its fiscal 2012 which drove the $8.9 billion quarterly loss. Then it bought Palm for $1.2 billion in 2010 and killed this unit by doing practically nothing with WebOS, except for making it open source, one of the first things Meg Whitman did in her current turn in the revolving CEO chair. The $25 billion deal with Compaq remains one of the most ill-advised M&A's ever. As far as Autonomy goes, HP had gladly given the software firm a 58% premium over its market value and had failed to adequately explain as to why it was purchasing a business that generates annual revenues of $870 million for $11 billion.

HP has written off ~$19 billion in the past 12 months from the three acquisitions. If nothing else Whitman has stripped away all the makeup and soft focus lighting surrounding HP in an attempt to accurately value what is left of this fading technology starlet.

 

HP

Dell

IBM

Stock YTD

-46%

-28.80%

2.94%

P/E

N/A

7.09

13.61

EPS

-6.41

1.47

13.91

Yield

3.90%

3.10%

1.80%

Perhaps HP would have been better off following in the footsteps of IBM (IBM) and Dell (DELL) who have done a number of smaller and successful acquisitions in the past. Dell's most notable purchase this year has been Quest Software for $2.4 billion while IBM's has been Kenexa for $1.3 billion. But, honestly, given the track record of HP's management to find value in their acquisitions, I'm unsure of that recommendation as well.

Large organizations become large for one set of reasons-- aggression and innovation, two things HP used to stand for-- and stay large for another - brand equity and inertia. But, when the market goes through a titanic shift in user preference the once lean and agile company simply cannot turn it around and respond quickly. HP made no gambles with their cash-cow PC sales as the iPhone and iPad began to change the computing world. They had to acquire Palm to compete in the phone/tablet space because Mark Hurd had destroyed the engineering and research divisions; turning an innovator into a better version of Dell, which itself was struggling. But that acquisition was ill-advised from the get-go as HP had no platform of its own to promote on the hardware.

Good for Whitman to realize that HP had no chance to capture market share with WebOS, one would hope that Thorsten Heins at Research in Motion (RIMM) would realize the same thing and have sold the Blackberry brand off before the company fades into further irrelevance. These write downs along with the heavy amount of goodwill HP is carrying on its balance sheet has drastically shrunk the company's effective balance sheet. With a market cap currently of just $24.7 billion with $11.3 billion in the bank and $19.6 billion in receivables investors have pretty much written off any potential turn around in 2013 operationally.

As bad as the situation was when she took over the helm of the sinking ship of HP, Meg Whitman's current situation is even worse, but at least it looks like the last of the skeletons are out of the closet. Until Autonomy can drive revenue that justifies even its drastically lower valuation and HP can figure out how to hold off hard-charging Lenovo in the PC space, how can an investor pace an accurate value on a company when its own board can't do it.

Source: Accounting For HP's Bad Valuations