The time has come to break up Hewlett-Packard Company (NYSE:HPQ) into parts. That’s the view of UBS analyst Steve Milunovich. He says that a sum-of-the-parts analysis finds the company is worth north of $20 a share.
“That valuation assumes that HP’s businesses are independent, which 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.”
In the last few weeks, the stock has rebounded nicely. Is this shift in momentum for real? That's hard to say. Hewlett-Packard's stock has been hurt by a number of strategic mistakes. Deals like Autonomy, Electronic Data Systems, Palm, and others built on the $17.6 billion purchase of Compaq a decade ago wasted the company's resources and talent. All of these point to a company that’s dysfunctional.
Immediate Fix: Splitting Up the Company
Fiduciary Trust sold its Hewlett-Packard stake several years ago when the investment firm began losing confidence in the company’s leadership, according to Chief Investment Officer Michael Mullaney.
“It’s absolutely dirt cheap,” Mullaney, who helps manage $9.5 billion in Boston, said in an interview. “If they want to try to fix it immediately, it would be by splitting up the company. That’s exactly what they have to do.”
Hewlett-Packard needs to overhaul its board, because some of the current members are responsible for approving the Autonomy acquisition, and then split the company in two. The personal computer and printer businesses could be spun off together or sold to a buyer such as an Asian computer maker like Taiwan’s Acer or Asustek Computer. The printer business, the stronger of the two, could help entice an acquirer and get a better price.
The $33 billion company, valued at more than $100 billion as recently as 2011, could boost its stock price to more than $20 by separating itself into two companies focused on consumers and business clients. By breaking up PCs and printers, Hewlett-Packard can reinvest that cash into the enterprise unit to enhance its software used for data centers.
Hewlett-Packard’s Reinvesting Ability
With the company failing to capitalize on a boom in demand for smartphones, tablets, and cloud computing, third quarter revenue has fallen short of expectations. Hewlett-Packard posted third quarter results that saw EPS beating estimates despite lower order renewals and large write-downs. The restructuring initiatives of Meg Whitman will likely result in continued weakness and write-downs, as the company focuses on core operations to find its next major growth driver.
But that doesn’t mean Hewlett-Packard is financially a weak company. The question is would it be a good idea to accumulate the stock that’s dirt cheap due to this weakness? Hewlett-Packard’s Enterprise Value to Free Cash Flow ratio is impressive and currently stands at 6.823, which is in-line with Dell Inc. (NASDAQ:DELL)’s 6.472, but better than International Business Machines Corp. (NYSE:IBM)’s 14.84. Enterprise Value to Free Cash Flow compares the total valuation of the company inclusive of debt with its ability to generate cash flow. It's the inverse of the Free Cash Flow Yield. The lower the ratio, the faster a company can generate cash to reinvest in its business or pay for acquisitions.
Hewlett-Packard Company (NYSE:HPQ)’s Relative Strength
The company is still a revenue generating machine. Its quarterly revenue per share is growing by 41.55%, compared to Dell’s 10.69% and IBM's is 24.03%.