Hewlett-Packard (NYSE:HPQ) Chief Executive Meg Whitman has repeatedly said that turning around the troubled firm may take years. Now, after better-than-expected earnings, investors may be willing to cut the venerable Silicon Valley firm some slack.

The Palo Alto, Calif. company on Wednesday reported net income of $1.4 billion, or 73 cents per share, which was a huge improvement over the year-ago loss of $6.85 billion, or $3.49 per share.  Revenue fell 3% to $29.1 billion, as the company's PC business continued to decline and demand from business customers remained tepid.  Fourth quarter gross margin was 23 percent, down 1.2 points year-over-year and 0.4 point sequentially.

Shares of Hewlett-Packard rose more than 9% in pre-holiday trading on Wednesday, closing at $27.36.  The shares are cheap, trading at a multiple of about 7 based on next year's earnings. That's lower than IBM's (NYSE:IBM) 10.6 valuation, Microsoft's (Nasdaq:MSFT) 14 valuation. and Oracle's (Nasdaq:ORCL) 12.  Shares of H-P have nearly doubled this year as faith in Whitman's turnaround strategy grows among investors.  Though the stock is trading above analysts average 52-week price target, of $24.97, some pundits think its got more gas left in its tank. According to Reuters,  nine firms have raised their targets on H-P.  Three think the stock could hit $30.

To her credit,  Whitman doesn't sugarcoat the company's many challenges.

"Obviously, there was real acceptance by our products and services in Q4, so we’re encouraged by that, but we’ve got macro economic headwinds," she said during the earnings conference call.  "I think, almost across the board. And we still have a lot of work to do in our go-to markets."

Take PCs, which have long been the company's bread-and-butter.  When measured by unit shipments, H-P lead its rivals with 26.9% market share in the third quarter, according to Gartner.  That was ahead of second place finisher Dell, which had 21%, and Apple's (Nasdaq:AAPL)  13.4%.  The price that H-P pays for its market prominence is steep.  H-P's Personal Systems business, which includes PCs,  reported a 3% operating margin.  Basically, H-P is giving its machines away. Even then, the business' results were subpar despite its rock-bottom prices.  Total revenue slumped 2% to $8.58 billion as a 4% gain in commercial revenue couldn't overcome a 10% drop-off in consumer revenue. Profit excluding some costs fell fell more than 16% to $259 million. 

Unfortunately, bigger problems lie ahead for H-P's PC business.  Market research firm Canalys estimates that more than half of all PCs shipped this year will be tablets such as Samsung's Galaxy and Apple's iPad.  Hewlet-Packard hasn't been able to gain traction in this fast-growing market because its products have failed to wow consumers. Engadget, for one, found the $160 HP Slate 7 to be overpriced and disappointing, noting  "For a casual user, the Slate 7 might be a good enough tablet, but at this price, good enough just doesn't cut it."  Laptop magazine reached a similar conclusion, telling consumers that the Nexus 7 and Amazon.com's (Nasdaq:AMZN) Kindle Fire HD were better values for the money.

Another major H-P business, Printing, also struggled though it is showing signs of improvement.  According to H-P, it gained 4 basis points of unit market share over the prior year.  Revenue for the quarter was fell 1% to $6.04 billion though when currencies are excluded sales rose.  Profit was little changed at $1.07 billion as gains with business customers were off-set by declines with consumers. Unit volumes were up 6%. H-P controls about 40% of the printing market and traditionally has sold printers at near or below costs, hoping to make its profit on supplies such as ink. Since printers have become increasingly commoditized, that strategy is proving increasingly tough to execute.

 “They just have to discount more and more to be competitive,” said ISI analyst Brian Marshall in an interview with Bloomberg News.  

His views were echoed by Edward Jones analyst Bill Kreher, who told the New York Times:" Most people view this as a restructuring, or a turnaround story. It’s going to be so hard for them to get away from their old hardware businesses.”

H-P, rivals such as IBM and Dell, are focusing on higher-margin business customers and it's strategy that has potential. Revenue at the company's Enterprise Group rose slightly to $7.59 billion, the only H-P business to see a gain. Profit was flat at $1.1 billion.  Business was also soft in Enterprise Services and Software. H-P, though, is making headway in hot markets such as cloud computing, big data and security, which each grew double-digits in the quarter.  Even so, business customers are calling the shots and are likely going to demand steep price cuts from H-P, which will pressure margins even further.

The Bottom Line

While H-P remains a work in progress, it is being lead by Whitman, one of the most capable CEOs in corporate America. If there is a way to bring H-P back to its former glory, Whitman is one of the few people who can do it.  Anyone who buys this stock is going to need to be patient.  H-P has been a mess for a long time and, like Whitman acknowledges, it is going to take a while to change. When Whitman joined the company in 2011, she was the third CEO in three years.  Now, the company is making its way back into the headlines for the right reasons instead of things such as inappropriate CEO relationships.

H-P's shares are ridiculously cheap and its potential upside once Whitman gets the company on the right track is huge. The time to buy the stock is now because it may not stay cheap for long.

Disclosure - At the time of writing, the author did not own shares of any company mentioned in this article.

Related Articles
  1. Personal Finance

    A Day in the Life of an Equity Research Analyst

    What does an equity research analyst do on an everyday basis?
  2. Mutual Funds & ETFs

    ETF Analysis: PowerShares S&P 500 Downside Hedged

    Find out about the PowerShares S&P 500 Downside Hedged ETF, and learn detailed information about characteristics, suitability and recommendations of it.
  3. Mutual Funds & ETFs

    ETF Analysis: ProShares Large Cap Core Plus

    Learn information about the ProShares Large Cap Core Plus ETF, and explore detailed analysis of its characteristics, suitability and recommendations.
  4. Mutual Funds & ETFs

    ETF Analysis: iShares Core Growth Allocation

    Find out about the iShares Core Growth Allocation Fund, and learn detailed information about its characteristics, suitability and recommendations.
  5. Mutual Funds & ETFs

    ETF Analysis: iShares MSCI USA Minimum Volatility

    Learn about the iShares MSCI USA Minimum Volatility exchange-traded fund, which invests in low-volatility equities traded on the U.S. stock market.
  6. Stock Analysis

    Should You Follow Millionaires into This Sector?

    Millionaire investors—and those who follow them—should take another look at the current economic situation before making any more investment decisions.
  7. Professionals

    What to do During a Market Correction

    The market has corrected...now what? Here's what you should consider rather than panicking.
  8. Mutual Funds & ETFs

    ETF Analysis: Vanguard Mid-Cap Value

    Take an in-depth look at the Vanguard Mid-Cap Value ETF, one of the largest and most popular mid-cap funds in the U.S. equity space.
  9. Mutual Funds & ETFs

    ETF Analysis: Schwab US Broad Market

    Take an in-depth look at the Schwab U.S. Broad Market ETF, an incredibly low-cost fund based on a wide selection of the U.S. equity market.
  10. Professionals

    Tips for Helping Clients Though Market Corrections

    When the stock market sees a steep drop, clients are bound to get anxious. Here are some tips for talking them off the ledge.
RELATED TERMS
  1. Equity

    The value of an asset less the value of all liabilities on that ...
  2. Hard-To-Sell Asset

    An asset that is extremely difficult to dispose of either due ...
  3. Sucker Yield

    When an investor has essentially risked all of his capital for ...
  4. PT (Perseroan Terbatas)

    An acronym for Perseroan Terbatas, which is Limited Liability ...
  5. Ltd. (Limited)

    An abbreviation of "limited," Ltd. is a suffix that ...
  6. BHD (Berhad)

    The suffix Bhd. is an abbreviation of a Malay word "berhad," ...
RELATED FAQS
  1. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>
  2. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  3. How does additional paid in capital affect retained earnings?

    Both additional paid-in capital and retained earnings are entries under the shareholders' equity section of a company's balance ... Read Full Answer >>
  4. What types of capital are not considered share capital?

    The money a business uses to fund operations or growth is called capital, and there are a number of capital sources available. ... Read Full Answer >>
  5. What is the difference between issued share capital and subscribed share capital?

    The difference between subscribed share capital and issued share capital is the former relates to the amount of stock for ... Read Full Answer >>
  6. What happens to the shares of stock purchased in a tender offer?

    The shares of stock purchased in a tender offer become the property of the purchaser. From that point forward, the purchaser, ... Read Full Answer >>

You May Also Like

COMPANIES IN THIS ARTICLE
Trading Center
×

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!