HP Inc. — Q1 FY2018 Form 10-Q
Reporting period: Three months ended January 31, 2018; comparative period is the three months ended January 31, 2017. HP sells personal computing devices, printing products and related services. The filing is unaudited.
Financial performance
| Metric | Q1 FY2018 | Q1 FY2017 |
|---|---|---|
| Net revenue | $14.517 billion | $12.684 billion |
| Gross profit / margin | $2.582 billion / 17.8% | $2.248 billion / 17.7% |
| Operating earnings / margin | $973 million / 6.7% | $856 million / 6.7% |
| Earnings before taxes | $905 million | $775 million |
| Net earnings | $1.938 billion | $611 million |
| Diluted EPS | $1.16 | $0.36 |
| Operating cash flow | $996 million | $767 million |
Revenue increased 14% year over year (13% on a constant-currency basis). International revenue rose 17% to $9.5 billion; U.S. revenue rose 9% to $5.0 billion. Gross margin improved 0.1 percentage point, while operating margin was unchanged. Net earnings and EPS were strongly affected by tax-reform accounting and should not be read as a comparable increase in operating performance: HP recorded $1.1 billion of net discrete tax benefits, and its effective tax rate was negative 114.1% versus 21.2% a year earlier.
Segments and material changes
- Personal Systems: Revenue increased 14.9% to $9.440 billion; operating earnings rose 8.0% to $337 million. Operating margin declined to 3.6% from 3.8%, with higher commodity costs partly offset by higher selling prices and expense management. Unit volume increased 7.3% and average selling prices 7.1%.
- Printing: Revenue increased 13.7% to $5.076 billion; operating earnings rose 12.2% to $801 million. Operating margin eased to 15.8% from 16.0%. Growth reflected Supplies and hardware, including the Samsung printer business acquisition.
- Samsung acquisition: Completed November 1, 2017, for preliminary consideration of $1.023 billion. HP recorded a $1.020 billion acquisition cash payment in the quarter; purchase-price allocations remain preliminary.
- HP realigned certain Printing business reporting categories; prior periods were recast, with no effect on consolidated revenue or earnings.
Cash, debt and liquidity
- Cash and cash equivalents were $5.475 billion at January 31, down from $6.997 billion at October 31, 2017. Cash declined by $1.522 billion during the quarter.
- Operating cash flow was $996 million. Investing used $1.723 billion, primarily reflecting the Samsung acquisition and derivative collateral; financing used $795 million, including $462 million of share repurchases and $230 million of dividends. Capital expenditures were $129 million.
- Total borrowings were approximately $7.9 billion, versus $7.8 billion at October 31; net debt was approximately $2.4 billion using reported cash. Current assets of $21.217 billion were below current liabilities of $23.349 billion.
- HP reported $966 million of commercial paper outstanding, a $4.0 billion committed revolving facility available through April 2019, and an additional $1.5 billion facility available through November 2018. It said it was in compliance with facility covenants. The MD&A contains an apparent “$966 billion” typo; the borrowing table reports $966 million.
- HP declared dividends of $0.28 per share, compared with $0.27 in the prior-year quarter. It repurchased 20 million shares for approximately $462 million and had about $2.0 billion remaining under repurchase authorizations.
Outlook, risks and unusual items
- No specific quarterly or full-year revenue or earnings guidance is provided in the supplied filing text. Management said cash, expected operating cash flow and capital-market access should cover anticipated near-term outlays.
- The Tax Cuts and Jobs Act effects remain provisional. HP recorded a $1.2 billion expense for deferred-tax remeasurement and estimated a $3.2 billion transition tax on accumulated foreign earnings, partly offset by tax attributes; it expects to pay the transition tax over eight years beginning in 2019. HP said the final tax effects could differ materially.
- Management identified flat PC and home-printing markets, competitive pricing, rising memory and other commodity costs, foreign-exchange volatility, macroeconomic uncertainty, and execution of business-model changes as challenges. HP also cited reliance on Canon for most A4 and some A3 laser engines and toner cartridges.
- HP highlighted product-quality and third-party component security risks, including Spectre and Meltdown vulnerabilities. It reported no material change in market-risk exposure and effective disclosure controls.
- Restructuring charges were $31 million for the quarter; HP expects approximately $190 million of future cash payments under cost-saving plans through FY2019. The FY2017 restructuring plan targets about $500 million of aggregate pretax charges and around 4,000 employee exits by FY2019.
- Legal matters include an appeal of the $3.0 billion Oracle jury award; HP has not recorded the potential recovery, and the appeals may take years. HP stated it had accrued for ongoing matters and did not believe a material loss above recorded amounts was reasonably possible, while noting litigation outcomes can affect results or cash flows.
Important facts for investors to verify
- How much of the reported net-earnings increase reflects recurring operations versus provisional TCJA tax benefits, and how those estimates change during the measurement period.
- Whether revenue growth, particularly in Personal Systems and Printing, is sustainable after separating currency effects and Samsung acquisition contributions.
- Cash conversion and liquidity: reconcile the quarter’s operating cash flow, tax-related working-capital movements, acquisition spending and derivative collateral requirements.
- Final Samsung purchase-price allocation, integration costs and the acquired business’s contribution to Printing profitability.
- Future commodity-cost pressure, competitive pricing, Canon supply arrangements, product-quality/security costs and material developments in litigation or uncertain tax positions.