Business Context and Reporting Period
This Form 10-Q covers Hewlett-Packard Company (HP) for the quarterly and six-month periods ended April 30, 2003. The reporting period reflects the full integration of the Compaq Computer Corporation acquisition, which closed on May 3, 2002. HP operates through six segments: Imaging and Printing Group, Personal Systems Group, Enterprise Systems Group, HP Services, HP Financial Services, and Corporate Investments.
Key Financial Metrics
| Metric | Three Months Ended Apr 30, 2003 |
Six Months Ended Apr 30, 2003 |
|---|---|---|
| Total Net Revenue | $17,983 million | $35,860 million |
| Gross Margin | 27.1% | 26.8% |
| Net Earnings | $659 million | $1,380 million |
| Diluted EPS | $0.22 | $0.45 |
| Operating Cash Flow | N/A | $3,206 million |
| Cash and Equivalents | $13,476 million | $13,476 million |
| Total Debt (Short + Long) | $8,471 million | $8,471 million |
Material Changes vs. Prior Period
- Revenue Growth: Net revenue increased 69% for the quarter and 63% year-to-date compared to the prior year, primarily driven by the inclusion of Compaq results. On a combined company basis (pro forma), revenue declined 1% for the quarter and 5% year-to-date due to economic weakness and product mix shifts.
- Profitability: Net earnings rose significantly to $659 million (quarter) and $1,380 million (six months) from $252 million and $736 million in the prior year periods. This was aided by a tax benefit of $131 million from the reversal of a valuation allowance on a deferred tax asset.
- Margin Pressure: Gross margin declined to 27.1% (quarter) from 28.5% in the prior year, attributed to a shift in sales mix toward lower-margin Personal Systems products and competitive pricing pressures.
- Restructuring: HP recorded $234 million in restructuring charges for both the quarter and six-month period, compared to $18 million in the prior year. This includes a new fiscal 2003 plan targeting approximately 2,300 employee terminations and asset impairments.
Guidance, Outlook, and Risks
- Future Restructuring: Management announced plans to initiate an incremental workforce reduction of approximately 3,500 employees in the third quarter of fiscal 2003, with expected costs of $200 million to $300 million.
- Segment Performance: The Imaging and Printing Group remains the primary profit driver. The Personal Systems and Enterprise Systems groups faced revenue declines on a combined basis due to weak IT spending and competitive pricing.
- Liquidity: HP maintains strong liquidity with $13.5 billion in cash and cash equivalents. The company expects to fund future restructuring and capital requirements from existing cash balances and operating cash flows.
- Risks: Key risks include ongoing economic weakness affecting IT spending, competitive pricing pressures, integration challenges from the Compaq acquisition, and potential supply chain disruptions (e.g., SARS outbreak in Asia).
Investor Verification Checklist
- Pro Forma Trends: Verify the underlying business trend by reviewing the "Combined Company Results" which show revenue declines of 1% (quarter) and 5% (six months) excluding the Compaq acquisition impact.
- Tax Benefit Impact: Confirm the sustainability of the effective tax rate, noting the $131 million one-time benefit from the reversal of a valuation allowance.
- Restructuring Costs: Monitor the execution of the new 3,500-person workforce reduction plan and the associated $200-$300 million cost estimate.
- Inventory Levels: Review inventory turns (9.1 at April 30, 2003) and the $5.7 billion inventory balance to assess exposure to write-downs in a slowing market.
- Legal Proceedings: Review Note 13 for details on pending litigation, including the "Stevens v. HP" inkjet cartridge class action and "Alvis v. HP" floppy disk controller litigation.