Palm Needs to Maintain Mobile Share to Justify HP's $1.2 Billion Purchase Price

by: Trefis

HP (NYSE:HPQ), a leader in global PC industry that competes with Dell (NASDAQ:DELL) and Apple (NASDAQ:AAPL), recently announced its purchase of the smartphone market Palm (PALM) for $1.2 billion in enterprise value. We have updated our analysis of HP to include Palm and estimate that Palm will constitute less than 1% of HP’s value.

For HP, this deal provides an opportunity to tap the lucrative global smartphone market which we estimate will be larger (in terms of units shipped) than the unit PC market by 2012. The acquisition also provides HP control of valuable Palm patents and a mobile phone operating system that could challenge the iPhone OS.

Palm Needs to Maintain Market Share to Justify HP Price

Palm’s market share in the US smartphone market has plummeted in recent years from around 18% in 2006 to just above 3% in 2009. We estimate that Palm share will continue to decline in the US albeit at a slower rate, reaching 2.6% share in 2010 and 1.6% share by the end of our forecast period.

As a result of our declining Palm market share forecast, we estimate that Palm is worth about $400 million (excluding Palm’s net cash), or about a third of the $1.2 billion that HP is paying net of the company’s cash. However, Palm’s market share is so low that small fluctuations have a large impact on the company’s valuation and stable Palm market share would justify the $1.2 billion price tag paid by HP.

Below (click to enlarge) we highlight Palm’s value (net of cash) in various market share scenarios.

In order to get to higher market share, HP-Palm will have to make a few improvements:

(i) Increase apps available on Palm smartphones

The low number of apps (2,000) available for Palm smartphones has been a problem for Palm, especially in light of the more than 185,000 apps available for the iPhone. App count, availability and pricing are important factors for consumer smartphone buyers.

(ii) Leverage HP Corporate Relationships to Distribute to Businesses

As mentioned in our article about the impact of the HP-Palm deal on RIM, HP has a vast presence in the corporate PC segment, attributable to its strong business distribution channels. The company has about 20% PC market share. HP will leverage these channels to increase Palm’s share amongst enterprises.

For additional analysis and forecasts, here is our complete model for HP’s stock.

Note: For the purposes of incorporating Palm into HP, we have treated Palm as a standalone entity including payment of taxes (or lack thereof due to losses) calculated at the Palm divisional level rather than the combined entity. We will make appropriate revisions to our analysis based on pro forma HP-Palm financial disclosures.

Disclosure: No positions