HP (NYSE:HPQ) is the world’s biggest PC manufacturer, ahead of players such as Dell (NASDAQ:DELL) and Acer (TPE:2353). However, HP’s services and printers businesses (specifically printer ink) are the most profitable, and together generate more than 50% of the company’s total profit.
Consequently, HP Services is the most valuable division for HP’s stock followed by Printers & Ink Cartridges division. We estimate that services and printers combined contribute around 62% of the Trefis price estimate of $54 for HP’s stock.
Below we discuss these two divisions in detail and why they are most valuable to HP.
1. HP Services Most Valuable Division (29% of HP revenues, 35% of profits)
HP became a big player in the outsourcing industry with the $13.9 billion acquisition of EDS in 2008. HP’s service division provides outsourcing and consulting services to its business customers, through which it generated more than $34 billion of revenues in 2009. The highest revenue contribution was from Infrastructure Outsourcing ($16 billion) followed by Technology Services ($10 billion).
Services revenues constituted 29% of the HP’s revenues in 2009 and we expect it to increase to around 34% by the end of the Trefis forecast period. We estimate that revenues from Infrastructure Outsourcing will grow to nearly $21 billion while Technology Services revenues grow to $13 billion over our forecast period.
Services contributed more than one-third of HP’s profit in 2009 with EBITDA (profit) margins of around 19%. The higher services margins are attributable to the absence of hardware, manufacturing and raw material costs faced by HP’s PC, server, storage, networking and smartphone businesses.
2. Printers Second Most Valuable Division
The significance of HP’s printer business is attributable to two factors:
(i) HP’s high market share in worldwide printer market
HP dominates the global printer market and accounts for around 40% of total printers shipped. According to IDC, a research firm, HP’s closest rival Canon (NYSE:CAJ) accounts for only 17% of printer shipments.
We forecast HP to remain the dominant player in the global printer market due to its wide distribution network and strong relationships with corporate clients.
(ii) High profit margins associated with printer cartridges
The majority of profits in the printer business come from sales of highly profitable ink cartridges. Generally, printer manufacturers sell the hardware at little or no profit and then generate strong profits from the recurring sales of ink cartridges.
Due to strong cartridge sales, HP’s printer division has remained one of the most profitable businesses for HP. In 2009, the printer business contributed around 29% of HP’s total profits with EBITDA margins of around 22%. We expect HP’s printer business to sustain these margins going forward and hence generate strong cash flow for the company.
You can see the complete $54 Trefis Price estimate for HP’s stock here.
Disclosure: No positions