For followers of Hewlett Packard (HPQ), today's stock price action might seem like deja vu. I first wrote about HPQ back in August after the abrupt departure of CEO Mark Hurd caught investors off-guard. The stock plunged from the high 40's to $38 per share, at which time I thought investors were completely overreacting. Fast forward about six months and Hewlett Packard is still struggling with public perception on Wall Street. The new CEO, a transplant from software maker SAP, has thus far not calmed investors' fears. Although the stock rebounded from $38 in August to $48 yesterday, the company's first quarterly earnings release under new leadership failed to impress.
After merely guiding fiscal 2011 earnings per share exactly to the consensus estimate of $5.24 per share (HPQ has a history of raising its conservative financial guidance) and failing to reach targets on the revenue line, the stock is tumbling 11% today, to about $42.75 per share. In my mind the Street is again overreacting to the lack of confidence in the new CEO. After all, he has been on the job only a few months and has not even unveiled his strategy for the company going forward (that announcement will come on March 14).
As is usually the case with value stocks that I like, the Hewlett Packard story for me is all about the numbers. The stock is now trading at 8 times this year's earnings. The company remains a tech giant and throws off about $12 billion in cash flow per year. With prudent capital allocation and a mid-single digit sales growth rate, the stock price has little room left on the downside. With its huge cash flow, the company has typically targeted buybacks first ($11 billion in fiscal 2010), then acquisitions, and then a small dividend of less than 1%, which should be increased going forward.
Given the depressed stock price (market cap of around $94 billion), there are just too many ways the stock price could move higher to not like the risk-reward tradeoff it currently presents. Since the P/E is unlikely to drop much below 8 times, even zero growth from here limits investors' downside. Much more likely, HPQ should grow sales at least at the rate of global GDP, with profits rising faster thanks to massive cash flow which can be used for share buybacks and accretive acquisitions. It is true that sentiment is poor right now and the general direction for the company remains unclear (for a few more weeks anyway), but given the price of the stock, all of those negatives have pretty much been factored in.