Why A Takeover Of Hewlett-Packard By Oracle Makes Sense

| About: HP Inc. (HPQ)

Hewlett-Packard (NYSE:HPQ) shares recently hit a new 52-week low due to concerns over slowing PC sales, reduced demand for printing in an increasingly digital world, weakness in Europe, etc. However, it looks like investors are overly pessimistic and too many shorts might have piled on to this trade. The stock has been pushed below $17 per share, and this company is still expected to earn about $4 per share annually, for at least the next couple of years. Hewlett-Packard might not be making the coolest tablet right now, but it still is a tech powerhouse, and it deserves to be valued at more appropriate levels. If investors and the stock market do not want to give Hewlett-Packard shares a reasonable valuation, it's possible that external forces will, and that could mean a takeover or perhaps, a breakup of this tech giant.

A recent Forbes article summarizes the potential for a takeover deal by Oracle (NASDAQ:ORCL), with the idea of spinning off the PC division and selling the printer business. It states:

"This idea stems from a New York Post story Sunday, which asserts that the sell-off in the stock last week has "put the world's largest tech company in a vulnerable position and may make it an Oracle takeover target." The piece says that "one source close to the situation" thinks Ellison is ready to pounce, and that a deal is "inevitable" if HP's share price keeps dropping."

The idea of a buyout has been going on for about one year. In 2011, another article brought this idea up with the thought that Hewlett-Packard's acquisition of Autonomy would make it more attractive for Oracle. The article states: "Oracle would likely be able to buy HP and have it pass antitrust muster, albeit with concessions, an antitrust source said. If Oracle bought HP, it would be better able to challenge IBM, sources said."

It seems that a likely solution for creating shareholder value could involve a sale of the PC business as it is experiencing low growth. This would make sense if HP chooses to breakup the company or if Oracle bought the company and then proceeded to sell certain divisions. The printer business could also make sense to spin-off to shareholders or to sell. The remaining divisions would presumably be valued at higher multiples due to growth potential of the cloud, software, consulting, etc.

If a breakup plan like this is announced, I expect the stock to jump back over $20 per share very quickly. If a takeover by Oracle is announced, it could go even higher. It seems reasonable to believe that Oracle could squeeze out more value from HP shares than the market is currently offering. As the article above points out, buying HP could allow Oracle to more effectively compete with International Business Machines (NYSE:IBM). Since Oracle has a history of making acquisitions and because currently low interest rates make financing takeover deals very cheap, a deal could be an "October Surprise" that might lift the shares back to more reasonable levels.

Key Data Points For Hewlett-Packard From Yahoo Finance:
Current Share Price: $17.25
52-Week Range: $16.77 to $30
Dividend: 53 cents which provides a yield of 3.1%
2012 Earnings Estimate: $4.06 per share
2013 Earnings Estimate: $4.20 per share
P/E Ratio: about 4 times earnings

Key Data Points For Oracle From Yahoo Finance:
Current Share Price: $32.08
52-Week Range: $24.91 to $33.81
Dividend: 24 cents per share which yields .8%
2013 (Fiscal Year) Earnings Estimate: $2.66 per share
2014 (Fiscal Year) Earnings Estimate: $2.92 per share
P/E Ratio: about 12 times earnings

Data is sourced from Yahoo Finance. No guarantees or representations are made. Please consult a financial advisor before making investments.

Disclosure: I am long HPQ. 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.