Now's not the time to own Hewlett-Packard Co. (NYSE: HPQ).
Long one of the bluest of blue chips in the U.S. high-tech sector, H-P has been in the spotlight and under the gun since its early August ouster of Chief Executive Officer Mark Hurd.
And while Hurd's unceremonious resignation following an internal sexual harassment investigation has been dominated the headlines when it comes to stories about H-P, the reality is that this is just one of the issues currently facing the computer-making heavyweight.
Right now, H-P finds itself addressing problems that affect its businesses from top to bottom.
In short, H-P is a "Sell," and here's why.
Hurd on the Street
When it comes to the Aug. 6 ouster of Hurd, the problem isn't just that H-P is looking for a new CEO. It's that a company once admired for its stability will have its third CEO in a decade.
That's emblematic of internal weakness and a lack of leadership – and it falls to the H-P board of directors to get the company back on course.
Right now, the H-P board is under the gun – both for firing Hurd, and then for granting him an overly rich severance package that failed fulfill the most basic objective of such packages – it didn't protect H-P.
The estimated payout of $35 million was expected to Hurd of the business market – or, at least, H-P's business market – for a year more. That's the kind of precaution a company takes to protect its current strategies, technologies and pending deals.
In Hurd's case, H-P failed to do that: Just hours after he signed out of H-P, Hurd signed on as co-president of H-P rival Oracle Corp. (Nasdaq: ORCL). Needless to day, this is a huge mistake. (H-P now is suing Hurd on the grounds that the former CEO is breaking the confidentiality agreement he signed as part of his exit package.)
This apparent blunder comes with a cost – several costs, in fact. First and foremost, this non-compete failure basically has H-P playing the role of paying the president of Oracle to compete against H-P. And it also puts H-P's innermost secrets right in Oracles hands.
Second, as a result of this oversight, it appears that the H-P board subsequently overreacted by trying to close out the deals that Hurd was negotiating when he was fired. In the last few weeks alone, H-P has acquired 3PAR Inc. (NYSE: PAR) and ArcSight Inc. (Nasdaq: ARST). It landed 3PAR after a bidding war with rival Dell Inc. (Nasdaq: DELL) only after agreeing to pay $2.35 billion, or $33 a share, for 3PAR – almost double the $18 a share that Dell had initially agreed to pay.
It looks to me like H-P has been overpaying for technology or talent, as it tries to act before Oracle can. And it's also caused the stocks of small tech companies to zoom on rumors that H-P is going to make a bid.
It also points to a dirty secret about H-P: Hurd starved the company of talent during his era as CEO. He slashed the research-and-development budget, long an H-P strength – and a major asset that allowed the company to maintain its position as one of the top innovators in the global high-tech sector.
Now the H-P board finds itself having to buy R&D results from third-party sources – in the open market – to overcome this shortfall. As International Business Machines Corp. (NYSE: IBM) CEO Samuel Palmisano recently observed when asked about rival H-P: "We'd never do a 3PAR or … [ArcSight]. We don't have to."
Currently, IBM spends about 6% of its revenue on R&D – a full three times what H-P is right now spending.
Under Hurd – and now under the directives of the H-P board – the dollars that once went to R&D were being used for other initiatives. Starting in April, H-P embarked on a spending spree aimed at lowering the company's reliance on lower-margin computers and servers.
Hurd guided the purchases of 3COM for $2.7 billion and smartphone-maker Palm Inc. for $1.2 billion. H-P also acquired security firm Fortify Software Inc., and Stratavia Inc., a Denver-based database and application-automation company.
"HP wants to expand from their traditional hardware offerings — printers and computers and servers — and they've gone into more services and software," Dave Novosel, an analyst at corporate-bond research firm Gimme Credit LLC in Chicago, told Bloomberg News. "This is something that's a little bit different for H-P. This is not where they've had a strength in the past."
This kind of strategic shift – a move that's based on margins, and not on longheld know-how and strengths – signals deep internal issues. And that should be a cause for concen among investors.
Consider the outlook for H-P's computer business. Intel Corp. (Nasdaq: INTC), Intel the maker of the CPU chips that H-P resells has come out with a downward guidance for the rest of this year due to a lack in demand from builders – like H-P.
Let's take a quick look at the status of H-P overall.
- H-P is dealing with a leadership void in the face of the most challenging economic environment since the Great Depression.
- It paid $33 a share to outbid Dell for 3PAR – double Dells's initial bid of $18.
- The H-P board granted Hurd, the ousted CEO, an estimated $35 million in severance compensation – and yet prevented him from joining Oracle, one of H-P's biggest direct rivals.
- And, finally, Intel, the world's No. 1 computer chipmaker, reduced its projection for the third quarter, which tells us that computer sector (in which H-P plays) is getting weaker.
H-P shares closed Friday at $39.14 – down 29% from their 52-week high of $54.75. It's a problem-laden company. Uncertainty about the overall economy is growing – as are the expectations that the U.S. tech sector will experience increased weakness. In such a discouraging environment, investor aversion to risk will only increase – particularly with problem-laden companies such as H-P.
Expect H-P shares to fall further before there can be any hope of a meaningful rebound.
This company has a leadership vacuum, is deploying a flawed game plan and is overpaying for the technologies it needs to execute that plan. Even worse, it's continuing to pursue the plan of the former CEO – even though he's not around to make his plan work.
H-P is a "Sell" until it has recruits a new top leadership, embraces a new game plan and proves it identify, attack and fix the problems that now plaque it from top to bottom.
(**) Special Note of Disclosure: Jack Barnes holds no interest in Hewlett-Packard-Packard Co. (NYSE: HPQ).
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