Business context and reporting period
Hewlett Packard Enterprise Company (HPE) filed this Form 10-K for the fiscal year ended October 31, 2017. HPE sells enterprise technology products and services and financing solutions. Results reflect a substantially reshaped company: HPE separated its Enterprise Services business, which merged with CSC to form DXC Technology on April 1, 2017, and its Software segment, which merged with Micro Focus on September 1, 2017. Those businesses are reported as discontinued operations; comparisons therefore reflect continuing operations and are affected by the transactions.
Financial performance and liquidity
| Metric | FY 2017 | FY 2016 |
|---|---|---|
| Net revenue | $28.9 billion | $30.3 billion |
| Gross profit / gross margin | $8.7 billion / 30.1% | $9.8 billion / 32.3% |
| Earnings from continuing operations | $625 million | $3.9 billion |
| Net earnings from continuing operations | $436 million | $3.2 billion |
| Total net earnings | $344 million | $3.2 billion |
| Diluted EPS, continuing / total | $0.26 / $0.21 | $1.86 / $1.82 |
| Cash from operating activities | $889 million | $5.0 billion |
| Cash and cash equivalents at year-end | $9.6 billion | $13.0 billion |
| Total debt at year-end | $14.0 billion | $15.7 billion |
FY 2017 net revenue fell 4.7% (4.1% on a constant-currency basis). Enterprise Group revenue declined 5.6% to $26.2 billion; Financial Services revenue increased 12.9% to $3.6 billion. Enterprise Group operating earnings were $2.7 billion, or 10.3% of revenue, versus $3.6 billion, or 12.8%, a year earlier. Financial Services operating earnings were $304 million, or 8.4% of revenue, versus $336 million, or 10.5%.
Operating cash flow fell by $4.1 billion, primarily reflecting a $1.9 billion pension funding payment associated with the Enterprise Services separation and lower earnings. Investing activities used $4.9 billion, including $2.5 billion of net property and equipment investment and $2.2 billion for acquisitions. Available borrowing resources were $5.9 billion. HPE had $3.0 billion of debt principal due within one year and said it expected to refinance $2.9 billion of notes maturing in October 2018.
In fiscal Q4, revenue was $7.66 billion, compared with $7.32 billion in the prior-year quarter. Earnings from continuing operations were a loss of $224 million; net earnings were $524 million, including $146 million from discontinued operations. Quarterly results also included substantial transformation and separation charges and tax effects.
Material changes versus the prior comparable period
- Gross margin declined 2.2 percentage points, principally due to higher component costs, especially DRAM, competitive pricing in Servers and Storage, the H3C divestiture, and unfavorable currency movements.
- Continuing-operations earnings were markedly lower. The prior year included $2.42 billion of gains from the H3C and MphasiS divestitures; fiscal 2017 also included new transformation and disaster costs.
- Server revenue declined 8%, including lower Tier-1 server sales; Networking revenue was affected by the H3C divestiture. Financial Services revenue rose, partly because leases with DXC became third-party leases after the Everett Transaction.
- Cash from operations decreased to $889 million from $5.0 billion, largely because of the pension funding payment and lower earnings. Year-end debt nevertheless declined by $1.7 billion.
- HPE acquired businesses including Nimble Storage, SimpliVity and SGI; aggregate acquisition consideration for fiscal 2017 acquisitions was $2.46 billion.
Outlook, management commentary, risks and unusual items
- HPE Next: The restructuring and operating-model initiative is expected to run through fiscal 2020. HPE targets $1.5 billion in gross annual savings exiting fiscal 2020, expects to reinvest about $700 million, and targets approximately $800 million in annual net run-rate savings. HPE estimated about $900 million of pre-tax HPE Next plan charges through fiscal 2020. Fiscal 2017 transformation costs were $359 million.
- Business outlook: Management described pressure from customers shifting workloads to cloud models, weaker demand for traditional servers and storage, price competition and rising component costs. HPE said it would redirect investment toward higher-growth, higher-margin offerings. The filing does not provide a clear numerical revenue or earnings forecast.
- Tax and separation exposure: HPE identified tax risks relating to the completed separations and pre-separation tax matters. It reported $11.3 billion of unrecognized tax benefits and approximately $4.4 billion of recorded liabilities for uncertain tax positions, interest and penalties. HPE also had $12.0 billion of foreign earnings treated as indefinitely reinvested.
- Hurricane Harvey: Houston facilities sustained damage. HPE recorded $93 million in disaster charges, including a $41 million asset impairment, and filed an insurance claim; the final claim amount was not quantified and no insurance receivable was recorded at year-end.
- Other risks: The filing highlights intense competition, supplier and component availability, foreign exchange exposure, cybersecurity and operational disruption, restructuring execution, and potential tax liabilities. HPE reported that its independent auditor issued unqualified opinions on the financial statements and internal control over financial reporting.
Important facts for investors to verify
- How much of the revenue and margin movement reflects the separations versus underlying demand, pricing and product mix.
- Whether HPE can stabilize Enterprise Group performance amid cloud migration, server and storage competition, and DRAM cost pressure.
- Progress toward HPE Next’s stated net savings target, including implementation costs, timing and realized savings.
- Cash generation after the one-time pension contribution, and HPE’s ability to refinance near-term maturities while funding investment, dividends and repurchases.
- Resolution and potential cash impact of uncertain tax positions, separation-related tax treatment and indemnification arrangements.
- Insurance recovery for Hurricane Harvey and any further costs or operational effects from the damage.