In recent times, Hewlett-Packard’s stock price has become a concern to its investors. On Friday, 19th of Aug 2011 itself it lost 20% of its market capitalization which is equivalent to $12 B approximately. A day before that HP announced its plans to either spin-off or sell its PC business. After I heard this news, I was shocked initially then thought of doing some math on HP revenues and growth rates.

For simplicity purposes, all the numbers mentioned here are rounded to the nearest integer. For 2010 FY, HP’s total revenue was $126 billion. Out of this, PSG (Personal Systems Group), its PC business, has contributed $41 billion (approx) towards that number. PSG’s revenue was nearly $41 billion, one-third of the total revenue. Total earnings from operations was $11.5 Billion out of which earnings from PSG were just $2 Billion. That means the group that contributed 33% of the total revenue has only resulted in 17% of the total earnings. As a result of this drag, HP’s margins look too low. IBM’s operating margin is 20% which is twice as HP’s. Let’s see how HP’s numbers look if we exclude PSG from HP’s portfolio. HP’s revenue excluding PSG was $85 billion and its earnings were $9.5 billion. HP’s operating margin with PSG is 9.12% where as without PSG is 11.17%. Either way HP’s operating margin doesn’t look as good as IBM’s 20%.

On the other hand, the growth of HP is also not on par with IBM’s. HP’s total Y-o-Y (Year over Year) growth including PSG for 2010 was 10%. Enterprise Servers, Storage and Networking group (ESS) grew at 21% and IPG (Imaging and Printing Group) grew at 7%. These numbers too don’t look so good. ESS grew at a good rate 21%. On the other hand the growth of Services was a meager 0.7%. This group is mainly composed of its $13.9 billion acquisition of EDS. PSG group grew at 15.4%. In fact this the second best growth after ESS.

The numbers for the first three quarters of 2011 compared to the first three quarters of 2010 look a little different. These numbers are the three most recent quarters numbers. So we can give more importance to these over 2010’s numbers. Services almost remained same between 2010 and 2011 (1% growth). Growth of other Organization Units are as follows ESS +14.6%, Software +14%, PSG -3%, IPG +3%. PSG actually contracted by 3%. On the other hand, their services definitely seems to be in bad shape. They are hardly seeing any growth there. IBM and other players in Services area are growing well in that sector with good operating margins. IPG growth is also NOT so appealing. However, it might be the market which is already saturated where it’s hard to see any rapid growth.

Good Decision to spin-off/sell PSG (Personal Systems Group)

By looking at these numbers, HP definitely doesn’t look good as of today. Investors’ concerns are NOT meaningless. In my opinion, HP has a lot of work to do at hand. As they declared last week, it’s a good idea to spin-off its PSG group. With narrow margins and weak growth prospects of the market, it’s a good idea to get rid of that division which IBM did long time back when there was no concept of tablet PCs which are the reason for PC market shrinking. However, IBM was not a big player in that market. Therefore it was an easy decision to them. On the other hand, HP is the world’s largest PC maker. But considering the industry’s growth prospects, the decision is wise on HP’s side to divest in this market. It will NOT reduce HP’s profit a lot but increases the operating margin by 2% which is a good metric to please the investors to some extent. By selling this business, they can release the money that’s been stuck in it and spend the money in a growing sector.

Lurking Danger – Services Group

In 2008, HP spent $13.9 billion to acquire Electronic Data Systems (EDS). I believe it was a good decision although it was a little pricey one. Services industry is the one where margins are high. HP is more like a follower in this sector than a leader. IBM has entered sector long before HP did and remained the market leader. Though the decision was good, its implementation doesn’t seem to be right. This group grew by 1% between 2010 and 2011. Between 2009 and 2010 it grew by 0.7%. In my opinion, this seems to be a disaster waiting to strike. Unless, HP solving the problem that’s hindering the growth, this group would also lose its steam. HP’s history with acquisitions is not-so-good, if not bad. Last year, they acquired Palm for $1.2 billion dollars which they are simply throwing it away, today. For the same money around the same time it could have got someone like Pega Systems which is a good player in BPM software world. In 2001, when the Application Servers were ruling the enterprise software world, HP acquired an application server vendor, Bluestone Software. Given the time at which this decision was made, one has to agree that it was a good move. However, the execution part of that strategy was not so good as HP had to discontinue the product. So, one of the things that HP has to address is it’s Services group’s growth issues.

Positive Signs – ESS (Enterprise Servers, Storage and Networking) Group

Except for servers, the other two are HP’s recent initiatives. They ventured into storage and networking sectors recently. The growth in this group seems to be really encouraging to HP. Before and after, Palm, some of HP’s acquisitions are in this sector. These acquisitions include Opsware, 3Com, 3Par, ArcSight etc. I believe HP is doing the right thing here and needs to continue to focus on this sector. May be, Juniper Networks would be a good fit to them to compete better with Cisco in Networking.

Untapped Market – Software

Though HP has the presence in Enterprise Software market, it is still a small player in this sector. Out of HP’s $126 billion revenue, Software contributes only 2%. I believe this is where HP can look for more growth in near future, along with Services and Data Storage and Networking (ESS). It has announced, some time back, as its focus is to expand into the enterprise software. Its main intention is to concentrate on Cloud based software which is an upcoming trend in Software world. By making this decision, HP is going in the right direction. However, it is already too late for HP to enter Enterprise Software market which is already filled with a lot of big players like Oracle, IBM, SAP etc. Their current presence is negligible compared to these other players’. So HP has to make the decisions quick. We need to wait and see how the acquisition of Autonomy would help HP to lay the first steps in this direction. However, I doubt if it could help them to enter the Cloud Computing area. While acquisitions stimulate the inorganic growth, HP has to concentrate on Organic growth as well. It has to put more focus on getting more and more talented people in to this division. New products have to be developed in-house as well. Being the highest margin market, Software can take the HP’s growth by leaps and bounds. It’s going to be HP’s cash cow, provided the right decisions are both made and implemented.

To conclude, HP has some serious problems in hand to solve. They have to work on their margins. In my opinion, the recently announced decisions, if correctly executed, can save HP from current crisis. HP is not the first one to be in this situation. In 90’s, IBM had the same problem and they were able to turn the things around in to their favor. Now it’s HP’s time. All it needs is a right person who can drive HP’s growth engine in right direction. Can Leo Apotheker be the one? We need to wait and see. May be, an experienced hand in M&A and post M&A activities is what Mr. Apotheker needs at this moment.

Personal Experience with HP: I like to see HP make a come back. I started my career at HP as an intern. I wish HP good luck !!!

References: Key Stats Page at Yahoo Finance ,  Annual Report 2010  and 2011 Q3 Financial Report