Value, Special Situations, Bonds
Contributor Since 2010
A few belated comments on Hewlett Packard Enterprise Co.'s (HPE) 17Q4 earnings (reported Nov. 21):
Meg Whitman announced that she will step down as CEO. The news obviously caught the market (and me) by surprise. The announcement was blamed for the stock's 7.2% plunge (from $14.12 to $13.10) on the following day. (Since then, the stock has regained just about all that it lost, closing at $13.95 today.)
Although the timing was a surprise, it is not all that surprising that Ms. Whitman would want to move on. She said that she wants to take some time off before taking on a new assignment. It is hard to imagine, however, that she will be able top the accomplishments achieved at Hewlett-Packard on her watch. Those investors who sold worry that HPE will be worse off without Ms. Whitman's pixie dust. Yet, she promises to be an active member of HPE's Board of Directors.
Ms. Whitman also said that Antonio Neri, who will replace her as CEO, is the "deep technologist" that the company needs at this time. (She said that her expertise is consumer and not enterprise, even though she always seemed to have a firm grasp of HPE's technology when answering questions on conference calls.)
Mr. Neri, HPE's President, is an engineer by training and a two-decade veteran of the company. He has worked side-by-side with Ms. Whitman during HPE's recent transformation and thus is the obvious choice to lead the company going forward.
Fiscal fourth quarter non-GAAP earnings from continuing operations (HPE's definition) came in at $0.29, up from $0.23 last year. Including $0.02 from discontinued operations, total non-GAAP earnings were $0.31, which was slightly above the company's guidance of $0.26-$0.30.
HPE's definition of non-GAAP earnings excludes restructuring, transformation, disaster, separation and other costs totaling $0.44 per share after-tax, which were mostly offset by a $0.38 per share tax benefit associated with the software spin-off and in anticipation of corporate tax reform. While excluding these costs may provide a good estimate of what the company's earnings will be after its HPE Next transformation program is complete, I typically do not exclude these costs in assessing current performance.
Thus, I estimate the company's fourth quarter non-GAAP earnings were $0.27 per share. GAAP earnings from continuing operations were $0.23 per share. I arrive at my non-GAAP figure by adding back $0.04 in estimated after-tax intangible amortization costs.
The company reaffirmed its fiscal 2018 earnings guidance, but set a low bar for the first quarter. It still expects to post non-GAAP earnings of $1.15-$1.25 in fiscal 2018. However, it said that fiscal first quarter EPS would be in the range of $0.20 to $0.24 (non-GAAP) and $0.01-$0.05 (GAAP).
In the fiscal 2017 first quarter, HPE posted non-GAAP earnings from continuing operations of $0.30.
The slow start to fiscal 2018 is due to several factors: First, the savings from the HPE Next transformation will ramp during fiscal 2018. Second, the company expects that the profitability of recent acquisitions will improve during the year. Third, share buybacks will provide a cumulative EPS benefit as the year progresses. Fourth, its operating margin will improve as newer higher value products replace legacy low-margin Tier 1 server sales. (However, management does not expect Tier 1 server sales to be eliminated completely until 2019 or 2020.)
On balance, I believe that HPE's transformation is proceeding as expected, despite Ms. Whitman's planned exit. If the company meets its non-GAAP EPS target in fiscal 2018 and the market begins to anticipate at least mid- single-digit revenue growth and low double-digit earnings growth in fiscal 2019, along with a meaningful reduction in HPE Next restructuring and transformation costs (thus reducing the gap between non-GAAP and GAAP earnings), I believe that it will put a higher multiple on HPE's earnings. My price target remains in the low- to mid-$20s, which reflects roughly a P/E multiple in the high teens on earnings of at least $1.25.
My notes from HPE's Analyst Meeting (held on October 18, 2017) are available here:
Notes and Analysis from HPE's Analyst Meeting - Lark Research
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
Additional disclosure: HPE is a long position in the Income Builder model portfolio.