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The HP Break Up: Will it Help Hewlett Packard Enterprise Gain Momentum?

Following reports in the WSJ and other media on Sunday, HP confirmed very early this morning that it intends to separate into two public companies:

  • HP Inc: the personal systems and printing businesses; will have Dion Wessler as CEO, Meg Whitman as Chair
  • HP Enterprise: servers, storage, networking, converged systems, services and software businesses, will continue to have Whitman as CEO, with Patricia Russo as Chair

Thus there will be continuity of leadership across both new companies.

The separation transaction is expected to close by end FY 2015 (October 31, 2015).

As a result of today’s announcement, HP is postponing its security analyst meeting (where Whitman provides an annual update on strategy) that was scheduled for this Wednesday.

The restructuring plan continues, with an additional 5k jobs now affected. In its Q2 FY14 earnings announcement, HP said that total employee reductions were expected to be between 45k and 50k. At end Q3 FY14, ~36k employees had left HP as part of the program. HP now anticipates a total of 55k reductions, independent of the separation transaction.

HP has now completed almost three years of its five-year turnaround plan. Whitman states that HP “has executed successfully against its turnaround objectives… has reignited its innovation pipeline, strengthened its go-to-market capabilities, rebuilt its balance sheet… The company is now positioned to accelerate performance (and) drive sustained growth…”

Whitman claims that HP is now at “the point where we can more aggressively go after the opportunities created by a rapidly changing market”

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Whitman used to repeat the mantra “better together”. Today she says that the separation is a natural evolution in the next step of the turnaround of HP. Was this a surprise? No. It’s a variant of what Leo Apotheker was proposing over three years back, but, as Whitman said this morning, HP was not in a  position to do so at the time, whereas because of “the success” of the turnaround program it is today. In preparation, HP has been transferring various businesses across HP Inc. and HP Enterprise, including HP Exstream (from Printing to Software) and the trade & warranty support, and spare & replacement parts businesses supporting the Printing and Personal Systems (PPS) segments (from the Technology Services unit within Enterprise Group). Other indications have included the appointment of Dion Wessler in June 2012 and his subsequent promotion 18 months later to EVP of PPS, and the recent expansion (in July) of the HP board from 9 to 12.

The two new HP businesses will still both be huge enterprises, still in (though at the foot of) the S&P Top 50.

Will the separation add shareholder value in the short term?

Clearly the news was received well by the stock market, with the share price rising nicely as we write.

HP stock has been undervalued… HP is trading at a valuation of about $66bn, around 0.6 times revenue. Valuations of the future HP Inc. and of the future HP Enterprise are likely to be have a higher total than this.

Will the separation help improve focus?

Clearly it will be an improvement to have a separation into two businesses that are (largely) focused on consumer and purely focused on enterprises. It should be much easier to focus each of the two new companies on a few key themes (we look forward to seeing this reflected in HP marketing).

As in a traditional spin off (which this is not), the two new companies have different cash characteristics and different growth characteristics, they target different investment types and have different go-to-market approaches.

Across the various parts of HP group portfolio, the competitive landscape varies enormously. But even after the separation, this will still be the case - within:

  • HP Inc., it differs significantly between Printing and Personal Systems
  • HP Enterprise, it differs significantly between Enterprise Group, Software and Enterprise Services

HP Enterprise will be a $58bn company. But it is one with a massive portfolio that spans hardware (servers, storage, networking), software, and IT services. And, apart from servers, it does not have market leadership in any other part of its portfolio.

So yes, but not that much. Each company will still contain very diverse businesses that need to be managed in different ways, in particular HP Enterprise.

What will the separation mean for HP Enterprise?

Well, there will be the loss of a cash cow to feed it. The Printer business may be in slow decline, but it will remain a cash cow for some time (last quarter it contributed 20% of HP Group revenue but 38% of non-GAAP operating profit) largely because of its supplies business.

Within HP Enterprise, Enterprise Group (EG) will be the cash cow (last quarter contributed 24% of HP Group revenue and 35% of non-GAAP operating profit). A big contributor here is the  Technology Services maintenance business, which contributes ~31% of its revenues.

The fact that Whitman has chosen to be CEO of HP Enterprise is a pointer of where the greatest opportunities for any future growth lie. And the indication that most of HP’s $19.8bn debt (as at end July) will be taken up by HP Inc. means that any investment for future growth is more likely to occur in HP Enterprise.

Whitman talks about needing to be more agile because of rapid changes in technology – but this is not a new phenomenon (remember client server?). She stresses that under her leadership, HP has once again been innovative (including Apollo, Gen 9 and Moonshot servers, the 3PAR storage platform, HP Helion Cloud) and that, looking ahead, “the separation will provide a reduction of debt to support investments across key “next-generation” areas of the portfolio, highlighting cloud, big data, security and mobility. Cloud, for one, can surely not be described as “next generation”.

We look forward to learning more about the multi-year innovation roadmap at HP Enterprise. The investment choices that HP Enterprise makes will ultimately determine whether it will be a major player in tomorrow’s world. The indications are that the investment focus in HP Enterprise will continue to be on technology, in particular storage and networking (talks with EMC, may well be back, with VMWare being the main attraction) rather than benefiting HP ES and/or Software - for example, bringing in new capabilities around helping enterprises in their digital transformation

  • HP ES is likely to continue to be the poor relation for investment in portfolio development. One phrase we picked up today is: "The separation will also allow for greater flexibility in completing the turnaround of Enterprise Services ---"
  • HP Software, while a higher margin business, is not in growth mode, and currently has very little SaaS business. Its portfolio  is mostly around IaaS enablng software. HP has no track record of buying and integrating innovative software boutiques. And of course, it is still plagued by the distraction (at the very least) of law suits with Autonomy

For HP Enterprise to be a major player in tomorrow’s world, we believe it needs to show it can be more bold and more innovative across its entire portfolio, not just in certain parts of EG.

We do have a few immediate questions:

  • HP Financial Services will be part of HP Enterprise, but to continue to provide financing for customers and partners of HP Inc.  How will that work?
  • HP Labs: will these be split up and allocated to the more relevant HP company?
  • Managed Print Services will be part of HP Inc, but servicing enterprises. How will that work?
  • HP's Global Business Services (GBS) organization will presumably become part of HP Enterprise... will HP Inc. become an external client of HP Enterprise for F&A and some HR BPO services?
  • How will synergies in purchasing and distribution be realized across two different companies? There has been a reference to a “supply chain arrangement" between the two companies that allows them to jointly negotiate purchases. How will that work?

Finally, following the news at Ebay last week, is this the start of a trend of large technology behemoths breaking up into smaller units to realize shareholder value? There are three that immediately come to my mind.

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