Key Takeaways From Hewlett-Packard Company (HPQ)’s Form 10
HPQ breakup in November
Hewlett-Packard Company (NYSE:HPQ) has filed Form 10, offering updates and insights into its planned split.
Breakup of HPQ is planned for November 1, where HP Enterprises (HPE) will be separated from HP Inc (HPI). Internal split of the businesses is expected to happen on August 1, but the stocks will start trading separately on November 1, 2015.
The management doesn’t expect the separation to cause major disruptions, and its channel partners have been confirming that they haven’t been hit with disruptions so far.
Hewlett-Packard Company (NYSE:HPQ) will incur a cost of $2 billion in relation to the breakup of the company.
Justification for separation
The management noted that the $2 billion cost related to breakup would still have been incurred if the company chose restructuring instead of separation. Given the way shares of HPQ have trended since the announcement of the breakup, it is clear that investors aren’t overwhelmingly positive about the strategy. However, skepticism about a major change like the planned one can always be expected.
Benefits of separation
HPQ hopes that breakup of the company into separate units will open up business opportunities where none existed before. The areas that HPQ management expects to gain in include new partnerships that weren’t possible as long as the company was a single entity.
A deeper look at HPE
HP Enterprises (HPE) will consist of Server, Services, Networking, Software and Storage operations. The business will be led by the current HPQ CEO, Meg Whitman.
The future of HPE
Hewlett-Packard Company (NYSE:HPQ) said in its Form 10 document that HPE will be restricted in its M&A deals. Specifically, HPE will only be able to acquire but not sell assets. There is actually no room for HPE to enter into a transaction whereby a portion or all of its shares will be sold. The restriction is important given the tax-free nature of the split.
However, when it comes to buying, HPE has room to make large acquisitions, which is why speculations that HPE might acquire EMC Corporation (NYSE:EMC) aren’t far-fetched.
Acquiring EMC would enable HPE to bolster its position in data center, cloud, analysts and mobile among other software markets. Acquisition of EMC may cost HPE about $57 billion, which may require raising equity to beef up its buyouts war chest.
Net debt position after split
HPE will carry a net debt after it is separated into a standalone company. Part of the reason the company will operate with net debt is that there is nearly $10 billion of debt from its financing arm (HPFS).
The management of HPE is hoping to maintain an investment-grade rating in the company.
Higher debt capacity
Hewlett-Packard Company (NYSE:HPQ) didn’t disclose debt distribution in its Form 10 filing. However, it is possible that the business will have a larger debt capacity. For that reason, the business may raise incremental debt to fund its various projects, including acquisitions.
Potential DSO and DPO improvements
There is room for HPE to improve its DSO from 58 days to about 48 days, meaning a 10-day improvement post-split. Improvement in DSO should result in incremental cash flow of about $1.4 billion.
The other area that HPE could drive improvements is DPO, improving it by 5 days or so, which could result in nearly $500 million in incremental cash flow.
A closer look at HP Inc (HPI)
HP Inc will be led by Dion Weisler. The business will include PC and Print segments.The management hopes to keep investment-grade status in HPI, but still continue to reward shareholders with attractive dividends.
HPI is more sensitive to currency movements than HPE.
Although Weisler expects continued consolidation in PC market, he is confident that HPI will be a share taker.
Print and PC businesses
Hewlett-Packard Company (NYSE:HPQ) expects the separation will enable HPI to increase focus on the printer business. Print is a segment that the company has continued to lag competitors.
PC and Print segments account for nearly 50% of revenue, yet the PC market is on a downward spiral. Consumers are shifting their spending on computing devices away from PCs to smartphones and tablets.
Areas of concern
Distress in PC market:
The PC market is still marred by uncertainties and continued decline. Concerns have intensified on that front, but it is worth noting that HP still has room to grow its shares, despite PC troubles. Separation of HPQ should unlock value in HP Inc, leading to more expansions.
Commoditization of PC and server markets:
There are no longer major differentiators in PC and server markets as the segments have been commoditized. The commoditization of the market has exposed HPQ to increased competition from the likes of Lenovo, Dell and several other Asian hardware vendors. Breakup of the company should open up more partnership opportunities for greater product differentiation.
IT market exposure:
Hewlett-Packard Company (NYSE:HPQ) is largely exposed to government, commercial and consumer IT spending. While this is great as long as the market remains healthy, adverse disruption of the market could pose serious risks to its revenue.
HPQ generates nearly 60%-70% of its revenue outside the U.S., which exposes the company to currency translation headwinds. However, the HPI unit is more sensitive to currency movements that HPE.
While a stronger U.S. dollar and weaker Euro pose currency conversion headwinds, it is noteworthy stating that the British Pound and Euro have been strengthening in the recent past. For that reason, a currency movement is likely to cause serious headwinds.
Struggle in cloud computing front:
Hewlett-Packard Company (NYSE:HPQ) continues to struggle as computing shifts from on-premise systems to cloud. Amazon.com, Inc. (NASDAQ:AMZN), Microsoft Corporation (NASDAQ:MSFT) and Google Inc (NASDAQ:GOOGL) are giving HPQ a run for its money in the public cloud space.
HPQ is expected to give another update on the breakup of the company and more details about HPE’s balance sheet and cash flow later in the year, possibly in September, before the eventual split.
Hewlett-Packard Company (NYSE:HPQ) has been able to stabilize under Whitman as CEO. However, investor patience will be required as the company enters another phase of transformation – breakup.
Disclaimer: The opinions and data expressed herein by the author are not an investment recommendation and are not meant to be relied upon in investment decisions. The author is not acting in an investment advisory capacity, nor is this an investment research report. The author’s opinions expressed herein address only select aspects of potential investment in securities of the company or companies mentioned and cannot be a substitute for comprehensive investment analysis. Any analysis presented herein is illustrative in nature, limited in scope, based on an incomplete set of information, and has limitations to its accuracy. The author recommends that potential and existing investors conduct thorough investment research of their own, including detailed review of the companies’ SEC filings, and consult a qualified investment advisor. The information upon which this material is based was obtained from sources believed to be reliable, but has not been independently verified. Therefore, the author cannot guarantee its accuracy. Any opinions or estimates constitute the author’s best judgment as of the date of publication, and are subject to change without notice.
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