Changes I’d Like To See At HPQ

• April 4, 2005
• Melanie Hollands

In Search of Mediocrity: The
“HP Way” Is a Distant Memory

 

So, Hewlett-Packard
finally announced its new CEO: Mark Hurd, the CEO of NCR. A number of names had
been bandied around in the media: Vyomesh Joshi, head of HPs printing and
imaging business, Quantum CEO Rick Belluzzo, MCIC boss (and former Compaq CEO)
Mike Capellas, and I even heard some quarters mention Motorola’s Ed Zander.

 

Hurd is a competent
manager with solid execution skills – something HP sorely needs to improve,
particularly in its enterprise business. Furthermore HP, like NCR, is a
diversified “multi-product” global technology company.

 

However, there are
a number of operating risks to HP going forward. The biggest problem for HP is
price pressure from Dell (in PCs / consumer market) and from IBM (in servers /
enterprise market). Another is a potential strengthening of the US dollar (which
would impact HPS international business).

 

HP has both
strategic and execution challenges. (Recall Hewlett-Packard’s Chairman, Patricia
Dunn’s comments at the time Fiorina was fired, which implied HPs challenges were
more about execution than strategy.) HPs
various challenges were discussed in greater detail in

this column on February 22.

 

Hewlett-Packard
needs to do a lot, both strategically and tactically, to move from being a
mediocre company to an industry leader. The company is spread too thin — trying
to be all things to all people — and competing in too many diverse segments
without effectively leveraging potential synergies. A more cohesive, selectively
focused strategy could better leverage HP’s resources and deliver more robust
results. However, Hurd’s appointment seems to suggest HP will continue to
operate as a diversified, multi-product / multi-market company rather than
streamline its operations.

 

Going forward, I
need to see many changes at Hewlett-Packard:

 

• Leaner and clear business
  strategy;
• Unified company culture;
  
• More and more visible senior
  management accountability;
• Considerably better
  execution, particularly in the enterprise business;
• Significantly more cost cuts
  to improve operating leverage; and
• Sales focus driven by
  specific end-markets.

 

With due respect to
Hurd’s considerable management abilities, I’d rather have seen HP promote from
within. One of Hewlett-Packard’s big problems is its unclear corporate culture.
An outsider is likely to further dilute the culture. Furthermore, because he’s
an outsider, Hurd doesn’t know the inner workings, factions, and personalities
at HP all that well, either. So seeing improved results at HP will probably take
some time. Furthermore, the fact that HP didn’t promote from within – yet again
(remember, Carly was an outsider, too) – suggests that the company’s management
bench is quite shallow. I can’t help but wonder if Vyomesh Joshi, the head of
HP’s lucrative printing and imaging business, might have been a better choice.

 

On the positive
side, Hurd has led a successful turnaround effort at NCR that was completed
ahead of schedule - quite unusual in corporate America. The turnaround improved
NCRs margins, achieved largely through cost cutting. More latterly revenue
growth, which also appeared ahead of expectations, provided an additional boost
to NCRs margins and operating leverage.

 

Hurd has a track
record for setting conservative expectations and beating them. This would be a
welcome change at Hewlett-Packard, which has failed to meet expectations
virtually every quarter since the Compaq merger three years ago. Aside from its
healthy printing and imaging business, HP has failed to deliver much revenue
growth.

 

Can Hurd turn
around Hewlett-Packard’s enterprise business? That remains to be seen. The
business is a shambles: poor execution, weak sales and customer service efforts,
an unfocused marketing message. Furthermore, IBM is a formidable competitor.
Long-term, I’m less confident of HPs ability to regain lost ground and market
share in enterprise. Success in the enterprise categories (in particular,
servers) is key to driving top line growth as well as incremental revenue and
profit in other segments like storage, software and services. Consequently, HP
runs the risk of continuing to lose share to more focused, higher-quality
enterprise OEMs (Dell in the PCs; IBM in servers).

 

It’s unlikely that
ongoing weakness in enterprise would be offset by HP’s printing and imaging
business — its premier franchise. Although HP continues to be the premier
franchise in the printing segment, the merger transformed it from being HP’s
largest and most profitable business unit into a much smaller contributor to the
total numbers.

 

As Hurd steps in,
demand continues to remain relatively weak across most of Hewlett-Packard’s
product segments. Although HP has significant technology assets and a solid base
of stable, profitable revenue from both its printing and supplies segments,
these positives appear all but offset by ongoing pressure from increased
competition, commoditization, ongoing execution challenges, and lack of
strategic focus.

 

In 1984, Tom Peters
and Bob Waterman (both partners at McKinsey & Co., one of my former employers)
wrote the timeless In Search of Excellence, a management book full of common
sense. (Incidentally, once a company is featured in these types of popular books
as an “excellent” company, that often means it’s about to become from a lovely,
lovely short….) At that time, HP was regarded as one of America’s truly
excellent companies. And it was. It used to have first-rate manufacturing
facilities. HP is the only American company ever to win the Deming award for
quality in Japan – a significant achievement for any manufacturing company.
Peters and Waterman highlighted HPs commitment to its employees, innovation,
efficiency, providing real value to its customers, and for being a company that
“sticks to its knitting” – focused on what it did well and not distracted by
peripheral businesses. Now, however, HP has de-emphasized R&D and outsourced
most of its manufacturing to become an assembler of someone else’s parts with
Bill Hewlett and David Packard, appears to have long gone.

 

These points about
corporate culture and innovation are exactly why I believe HP needs
restructuring — to regain focus. R&D in an open environment is a return to the
old ways that worked. They are also the reason I’d have preferred an insider at
the helm.

 

HP needs a strategy
more closely resembling its strategy in the 1970s if it’s to cease being search
of mediocrity.

 

I’ve been wondering
whether Ms. Fiorina or the Board should take the blame for HP’s current woes.
Hmmm… I’ll take the Board for $100, thank you Alex. I’ll be the last person on
Earth to defend Carly, but it’s easy to fire someone for doing a lousy job
executing a seriously flawed strategy than to face the fact that the strategy
was poor to begin with. Before Carly arrived on the scene in 1998, HP’s strength
in the enterprise was already waning. Several enterprises made large bets on HP
for substantial segments of their IT infrastructure and those companies ran into
exactly the problems I describe above and this happened before the Carly era. I
think the seeds of the current “strategy” and “execution” problems were sown a
very long time ago. And “The HP Way” is now just a fond memory.

What IBM did in the 1980s to revive its business is a good model that the HP
board should consider. Lou Gerstner (another former McKinsey partner) discarded
the elements of IBM culture that no longer worked and refocused on the company’s
admirable strengths. This might work for HP, but Mark Hurd is no Lou Gerstner.
Until I see some signs of intelligent strategy, long-term I’m writing HP off as
a goner.

 

So, all that said,
would I own the stock? Yeah, I’d probably take a small position on turnaround
potential. It looks good technically, with volume surging and relative strength
is solid in a poor tape.  A close over $22.5 with volume around 10 million would
do the trick. Upside could be around 26 beans driven largely by margin
improvement (itself driven largely by cost cutting) – and it doesn’t take all
that much margin improvement to move a stock. (Recall SUNW, moving from the
October 2003 lows of $3.25 to March 2004 in the high $5s – a nice short-term
move on some margin improvement.) Longer-term, HP could gain a little market
share, particularly if it can get improve its enterprise business, which should
provide a little boost to top line growth over the next couple of years. So,
yep, I’d probably own some but it wouldn’t be my #1 long position.

 

 

Melanie Hollands

melaniehollands@yahoo.com