HP's Sales and Earnings Rocket Upward in Fiscal Q3

Published: August 23, 2007

by Timothy Prickett Morgan

Mark Hurd, Hewlett-Packard's chairman and chief executive officer, is starting to loosen up a bit now that the company is firing on all cylinders and delivering very respectable growth on its top and bottom lines. In the third quarter of fiscal 2007 ended July 30, typically HP's weakest quarter of the year, the company booked revenues of $25.4 billion, up 16 percent, with net earnings of just under $1.8 billion, up 29 percent. With this quarter, HP is well on the way to becoming the first IT vendor to break $100 billion in sales in a year.

The PC business has been problematic for many IT vendors over the years, including HP, but not in this quarter. Personal Systems Group is the revenue leader at the company, with $8.9 billion in sales in fiscal Q3. Hurd said in a conference call with the media that PSG had double-digit revenue growth in the three major geographies that it carves the world into--Americas, EMEA, and Asia/Pacific--and that operating profits, at $519 million, or 5.8 percent of revenue, were at the highest levels that HP has seen in years. Sales of notebook PCs grew by an astounding 54 percent in the quarter, to $4.3 billion, and unit shipments rose by 71 percent. Desktop PC sales rose by only 12 percent, accounting for $3.9 billion in sales, with shipments up only 17 percent. People are apparently interested in buying less-expensive yet capable laptops.

As for operating margins, Hurd warned that PC component prices were low during the quarter and that he did not believe that they were sustainable over the long haul. And Cathie Lesjak, HP's chief financial officer, warned Wall Street analysts in a separate call that HP did not believe that it could sustain growth in its PC business that was three times the industry average.

Hurd made the same comment in regard to server component prices, too. HP's Enterprise Storage and Servers group booked sales of $4.5 billion, up 10 percent. The Industry Standard Server division was, as usual, the workhorse on the server front, with $2.8 billion in sales, growing 16 percent from the prior year's quarter. Hurd boasted a bit that the company's BladeSystem blade server line had 81 percent sales growth in the quarter, but the c-Class blade servers were not shipping in volume a year ago and HP was getting its clock cleaned by IBM in the blades arena for the prior couple of quarters. This growth just means HP's c-Class products are buying back lost market share. Hurd said that Itanium-based Integrity server sales rose by 71 percent, but sales of Alpha and PA-RISC machines declined faster than this growth, once again forcing the Business Critical Systems division to post a decline. In this case, BCS sales fell by 3 percent to $810 million, but Integrity sales accounted for 67 percent of this, or $543 million. At this rate, within perhaps 18 months, BCS will consist of mostly Integrity system sales, but will probably be a slightly smaller division unless Itanium-based machines gain more traction. The StorageWorks division, which sells disk and tape storage, had sales of $900 million and grew by 6 percent. Midrange EVA disk array sales rose by 14 percent, and sales of high-end XP arrays rose by 2.5 percent. But tape sales dragged down disk sales. In terms of operating profits, the ESS group brought $464 million, or 10.2 percent of revenue, to the middle line, which means ESS made a significant contribution to the bottom line--the plan for acquiring Compaq six years ago.

Of course, the Imaging and Printing Group has been the HP profit engine for many years, and that did not change in fiscal Q3. IPG had sales of $6.8 billion, up 8 percent. Hurd said that HP shipped more than 13 million printers in the quarter, up 10 percent. IPG had an operating profit of $981 million, or 14.5 percent of sales.

On the services and software front, HP Services had sales of $4.2 billion, up 8 percent. Outsourcing sales rose by 11 percent to $1.2 billion, consulting and integration services sales were up 11 percent to $800 million, and technology services sales were up 5 percent to $2.2 billion. The services group had an operating profit of $430 million, or 10.3 percent of revenue. HP's software unit, buoyed by the acquisition of Mercury Interactive and a number of smaller companies, rose by 74 percent in the quarter to $554 million. OpenView system management tool sales rose by 14 percent, excluding Mercury products. The software unit had an operating profit of $81 million, or 14.6 percent of sales, a factor of 3.6 times growth compared to a year ago. HP exited the quarter with $12.5 billion in cash, and even after the Opsware acquisition this quarter, has plenty of dough to build out its software portfolio.

Looking ahead, Lesjak said that HP reckons that sales in the fiscal fourth quarter will be in the very tight range of $27 billion to $27.2 billion, with earnings per share in the range of 75 cents to 76 cents. That would put sales for fiscal 2007 at $103 billion to $103.2 billion, and full-year earnings per share at $2.86 to $2.87.

On a geographical basis, HP's sales were up 14 percent to $11.1 billion, while sales in the EMEA area rose by 16 percent to $9.7 billion. In the Asia/Pacific revenue, HP's sales rose by 22 percent to $4.6 billion. Currency effects, thanks to the weak U.S. dollar, helped the EMEA region to the tune of 7 percent, while currency bolstered AP sales by 4 percent. The Americas, thanks to sales in fast-growing countries like Brazil, were helped by 1 percent because of currency exchange rates. In the so-called BRIC countries--Brazil, Russia, India, and China--HP saw sales rise by 35 percent compared to the year-ago quarter, and sales in this region during Q4 accounted for 8 percent of revenue, or just over $2 billion.

The question that everyone wanted to ask Hurd, as the leader of one of the largest public companies in the world and a company that gets 65 percent of its sales outside of the United States, was: What is going on in the global economy? He did not take the bait. "I am not an economist," Hurd warned. "But we saw good growth across all segments and all geographies. We saw demand to be steady."

The other question people wanted to have answered on both calls is why Q3 was so good. "I don't know," Hurd started off in his explanation--something you don't hear from a CEO most days. "We're a very global company, and the growth from the emerging markets was substantial. We also have a pretty strong lineup of products and services. I don't think it is anything tricky. It's just solid fundamentals."

As for future growth, Hurd said that in the markets where HP plays, the IT market is projected to grow to about $1.1 trillion in the next few years, and HP wants a bigger piece of that pie. "Today, as big as we are, we are underdistributed," he said. "We have a lot more market to get after."

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