Seeking Alpha
Profile| Send Message| ()  

Hewlett-Packard (HPQ) CEO Meg Whitman issued a big announcement this week. In it, she said that the company will unveil a new line of printers for businesses in an effort to revive its struggling business. The printers will be multifunction machines that combine traditional printers with scanners and software to manage electronic documents. Whitman said that Hewlett-Packard has not released a new product lineup in seven years and there has been a huge product gap.

This announcement is timely as it shows the CEO's strong desire to turn things around at the company. Since assumption of the company's top job, Whitman believes that the right way to fix Hewlett-Packard is to cut down costs and invest in new products. Earlier it reported that it will reduce 9,000 jobs. Overall, it plans to cut 27,000 jobs, or the equivalent of 8% of the company's workforce. The cost savings from this planned workforce reduction will be used to reinvest in new businesses.

With this news, I believe that the company is on the right track to experience a turnaround. But turnarounds do take time, and I expect to see notable announcements like this in the coming months. Whitman blamed her predecessors for not investing in research and development. In fact, the company has lagged its research and development spending relative to its peers. From 2003 to 2010, Hewlett-Packard reduced its research and development budget from $3.7 billion to $3 billion. This was despite significant increase in its revenues from $73 billion to $126 billion. For the past year, it has increased its spending to $3.3 billion, equal to 2.6% of revenues.

According to S&P Capital IQ, Microsoft (MSFT) spent $9.4 billion in research and development. Other technology stalwarts also have higher research and development spending. Google (GOOG) spent $5.2 billion over the last 12 months. Intel (INTC) has research and development spending of $8.4 billion and IBM (IBM) came in at $6.3 billion. Cisco (CSCO) has allocated $4.4 billion for research and development spending. The lower research and development spending of Hewlett-Packard implies a passive strategy it adopted in the past. Hewlett-Packard is a larger company than its rivals as it competes in various businesses such as personal computers, printers, servers, storage, software, and networking. In contrast, Cisco has a focus on networking, but has higher average research and development spending than Hewlett-Packard.

The reason is that the company decided to use its free cash flows of around $40 billion to fund big ticket acquisitions over the past few years. This appears to have been a bad strategy in hindsight as some of the businesses it acquired were eventually divested or ceased operations. A classic example would be its acquisition of Palm in 2010; eventually, it decided to shut down its operation as it has yet to come up with a detailed plan for its planned smartphone business. For the last three years, the company does not have significant cash flow growth. Free cash flow has declined from $4.52 billion in 2008 to $3.81 billion in 2011. On the other hand, Cisco generated free cash flow of $1.52 billion in 2008 to $1.92 billion in 2011. Intel also posted free cash flow of $1 billion in 2008 to $1.85 billion in 2011. This implies that management pursued the wrong strategy and profitability has suffered.

The current management is doing its best to rectify these mistakes. As a start, it plans to invest its cash flow into business where it has market leadership. Such is the case with regard to the Hewlett-Packard printers. According to the latest IDC data, it still commands a respectable 39.6% market share for the second quarter. Canon came in at the second spot with 21.4% market share. Epson and Brother garnered the third and fourth places with market shares of 6.5% and 5.1%, respectively. Moving forward, I expect Hewlett-Packard to corner the rest of the printer market. But the whole printer industry has suffered. It has struggled with declining revenues from this segment with the rise of smartphones and tablet computers. At present, this generates close to 30% of the company's total revenues. This translates to around $25 billion in revenues a year.

The problem is that the company has held on to the old product portfolio that has aged through the years. This resulted in its competitors making strides in the printer business. Hewlett-Packard said that the new printers will be priced around $2,500 to $3,000 each, although there have been no details with the pricing of all its models. Some of the models are primarily targeted at small businesses. Management expects that the company will make progress selling these printers within the year.

For the current fiscal year, analysts expect the company to earn $4.04 per share. This translates to a decline of 17.20% compared to the same period last year. For the next five years, analysts are more cautious about the company's outlook.

It sees growth of around 1.75% a year for the period. This is significantly lower than the industry's average of around 12% a year. In fact, technology giants Microsoft and IBM are expected to post better growth rates at 8.83% and 9.83%, respectively. This is despite the overall bearishness of the market on both Microsoft and IBM. While it is too early to say that this will turn into real profits, I believe that the current steps of management appear laudable. As with real turnarounds, it takes significant efforts and overhauling before reaching its goal. For now, it will take at least a couple of years more before investors can finally receive the fruits of their loyalty to the stock. Investors' bet is definitely on the jockey -- whether Whitman can deliver what she has promised when she decided to take on the job as CEO.

Source: This Tech Stock Won't See Gains For Years