HP: Why Bill And Dave Would Back A Break-Up Plan
The time has come to break up Hewlett-Packard into parts. That’s the view of UBS analyst Steve Milunovich, who goes so far as to assert that founders Bill Hewlett and David Packard would likely support slicing the company into pieces if they were still alive.
In a research note, Milunovich actually goes a step beyond saying that the company ought to be chopped up. He says that it is likely to happen, driven either by activist investors, private equity buyers or some combination. The most likely scenario, he thinks, would be to separate the enterprise business from the PC and printer business – an approach not all that different from the one proposed by former CEO Leo Apotheker.
“In our view, full value won’t be realized by just improving operations – structural change is required,” he writes. “Based on HP’s history, we think Bill Hewlett and Dave Packard would support this approach.”
Milunovich says an updated sum-of-the-parts analysis finds the company is worth north of $20 a share – nicely higher than the Friday close at $14. Effectively, he says, investors are getting the PC and printer business for free. But realizing that value is no small matter.
“That valuation assumes … that HP’s businesses are independent, which they are not,” he writes. “We believe this fallacy of independence explains the gap between intrinsic and realized value. The burden of corporate management, systems and brand erosion argue that improving unit results isn’t sufficient—we believe HP should break up.”
The analyst notes that some people point to IBM and see a model for HP to follow, but Milunovich isn’t convinced that the situation is comparable.
“[Former IBM CEO Lou] Gerstner correctly decided that keeping IBM together maximized its competitive edge in integration and innovation,” he writes. “On the other hand, we think HP with its fully- developed enterprise and consumer businesses should split up in order to realize greater value.”
Milunovich thinks HP is in denial about the growth prospects for both PCs and printers, but he nonetheless asserts that the company really does have substantial assets. He notes that the company is “far and away” the leader in printers, “likely a huge cash cow for years to come.” At least for now, it is also the world market share leader in PCs, a business he contends is also a cash generator, with profitability likely to continue for at least the next few years. The company’s software business is #6 in the world in terms of sales. He notes that the enterprise systems business is being “revitalized” with leadership in Intel servers, and he says enterprise services, while “a mess,” has value if it can get close to its long-term model of 3%-5% revenue growth and 7%-9% operating margins.
Milunovich argues that many of the issues that have plagued the company are at the corporate level – and might be fixed in a break up.
“CEO Meg Whitman has argued that HP’s biggest problem has been the turnover in leadership, which meant inconsistent strategic plans and execution miscues. This problem at the top is exactly the kind of issue that would cause business segments to underperform their potential.” He notes hat Whitman outlined some of the company’s issues at the recent analyst meeting:
- Lack of competitive focus.
- Cost structure not aligned with revenue trajectory
- Accountability and compensation linkage not optimized
- Significant underinvestment in R&D and IT impacting the businesses
- Direct and partner go-to-market model need renewed focus
“These failures, to which we would add poor board governance and excessive debt, are at the corporate level and can affect all businesses,” he writes. “If the segments were independent, a few might suffer these problems but it is unlikely all would.”
While he sees potential value here, Milunovich for now keeps his Sell rating on the stock, for two reasons: management shows no interest in structural change, and “the PC/printer secular decline shoe has yet to fully drop.”
But he adds that he is “more convinced than ever there is value at HP and that its full realization requires a break up of the Silicon Valley icon.”
And he adds: “We think Bill and Dave would agree.”
HPQ is down 19 cents, or 1.3%, to $14.54.