HP's top executives have confessed to a broad misread of the enterprise computing market that has caused the company's hardware sales to remain flat while rivals such as IBM and Dell have increased server and storage revenue.
HP's main mistake over the past few years was placing too much faith in the margins its enterprise hardware business could generate. Lackluster IT spending along with a speedier than expected shift from RISC-based systems to cheaper boxes using processors from Intel and AMD have impacted HP's bottom line in a negative way. The result has been a merged HP and Compaq product line that cannot generate consistent profits for the company.
“The enterprise systems business still ought to be a . . . 7-8 point operating margin business, but certainly, the fact that there hasn't been pick-up in IT spend as long as it's gone on pushes that out," HP's CEO Carly Fiorina told the Financial Times.
HP's enterprise hardware unit most recently reported a $208m loss in the third quarter, blaming most of this shortfall on disastrous ordering system snafus. A bad ordering system, however, doesn't explain why HP has posted 6 quarterly losses to just 3 profits over the past two years.
The sour economy does provide the best explanation for HP's woes. Rival Sun Microsystems has posted just one profit over the same period and is at particular risk to cuts in once high-margin gear such as Unix servers.
Oddly though, Fiorina pulled attention away from economic issues and pointed to the move toward x86-based servers as possibly the single biggest factor harming HP's hardware business.
"We didn't think that (shift) would happen until 2006 or so," Fiorina told the FT. "It happened in 2004. That means the kind of cost structure we contemplated having in 2006, we need to have sooner." That line of excuse making would make more sense if HP hadn't inherited the largest x86 server business around via Compaq.
Yes, these systems sell for less and have lower margins that RISC-based servers. And, yes, HP's corporate structure was partially set up with more Unix server sales in mind.
Fiorina, however, has provided a picture of just how awful HP's hardware business would be without the help from the former Compaq. HP has fired tens of thousands of workers in its enterprise group over the past two years and cut back on research and development costs. In addition, the company offloaded what was left of its PA-RISC and Alpha chip making duties to Intel while picking up the "industry standard" Itanium processor for the high-end systems. All of these moves were designed to lower the cost structure of HP's Unix dependent hardware business.
One can only wonder how shocking HP's results would have been without ProLiant systems providing a steady revenue stream back to the company. Is Fiorina a genius for making this possible via an acquisition or did she fail HP by letting the rest of the hardware business reach such desperate levels?
For all of its Sun bashing, it can be suspected that HP would look a lot like its rival had Compaq not done the dirty work.
Meanwhile, IBM gained steadily on HP and Sun in the Unix market, increasing hardware sales and revenue which then lead to more software and services deals. On the low-end, Dell has done much of the same, picking up gobs of market share in the x86 segment and posting solid profits quarter after quarter.
The good news for HP is that it might soon be able to buy its way out of this enterprise computing conundrum. Some financial analysts expect HP to have up to $14.5bn at its disposal should the President do as expected and sign the Jobs Creation Act of 2004. This will allow companies to "repatriate" cash from overseas. HP could use funds to buy back billions in stock or to boost its enterprise fortunes via a major acquisition. Don't Veritas and BEA look tempting at the moment? ®
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