Based on its 3% stock-price decline following what was a sound, if not spectacular, 2016 third-quarter earnings announcement on Sept. 7, investors were less than impressed with Hewlett Packard Enterprise's (NYSE: HPE) results. It's also likely CEO Meg Whitman's announcement of yet another major shift in HP Enterprise's business transformation played a role in the Street's somewhat muted reaction.
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While it's clear a number of analysts and investors aren't enamored with the changes Whitman is implementing, they will prove to be the driving force behind the future of HP Enterprise. And that translates to an opportunity for patient investors willing and able to give HP Enterprise the time it needs to make the transition, particularly in a few key areas highlighted in the recent quarter.
Image source: HP Enterprise.
It's all about focus
Investors may recall one of the objectives of the split with the company now calledHP Inc. (NYSE: HPQ), back in Nov. of 2015, was to run a focused, more adaptable company to prosper in the rapidly changing world of technology. To facilitate HP Enterprise's plans to shed non-core assets, it announced an $8.5 billion deal to spin off and then merge its Enterprise Services unit with Computer Sciences Corp. (NYSE: CSC).
HP Enterprise shareholders will gain a 50% ownership stake in the "new" CSC when the deal closes. As it happens, HP Enterprise has another non-core unit that has also been under pressure to maintain revenue, let alone increase it: software. Whitman confirmed the rumors that had been swirling the last couple of weeks, announcing another spin-off and merger, this time with U.K.-based Micro Focus International (NASDAQOTH: MCFUF).
In addition to receiving a $2.5 billion cash payment for the $8.8 billion merger of certain "non-core software assets" with Micro Focus, HP Enterprise shareholders will own 50.1% of one of world's "largest pure play software companies." Just as importantly for HP Enterprise, the move will sharpen its aim of leading the hybrid cloud, data center Infrastructure-as-a-Service (IaaS), and Internet of Things (IoT) revolutions.
Lean and mean
Another objective of the split with HP was to gain cost efficiencies -- and it's already working like a charm. Analysts had expected HP Enterprise to report $0.45 non-GAAP (generally accepted accounting principles) earnings per share in Q3 on $12.64 billion in sales. HP Enterprise pleasantly surprised by reporting $0.49 per share -- a 9% improvement year over year -- on revenue of just $12.2 billion.
The reason HP Enterprise was able to report a jump in EPS, despite its 6% drop in sales compared to last year, can be summed up by its impressive $3.1 billion decline in total costs and expenses in Q3. The result: Earnings from operations jumped tenfold to $2.5 billion, despite an $800 million decline in revenue.
And cost efficiencies will improve even further with the completion of the aforementioned spin-off mergers. The CSC deal alone is expected to generate synergies that will pare costs $1 billion in the first year, and as much as $1.5 billion annually going forward.
Just the facts
With so many costs associated with restructuring following the HP split still on the books, HP Enterprise's non-GAAP results are a more accurate measure -- and will be for the current quarter as well, given that the company's "independence" began in Nov. of 2015. After considering "divestitures and currency," HP Enterprise's segment revenue wasn't quite as poor as it appeared.
The Enterprise Group has been and will continue to be the driving force behind HP Enterprise's growth. The key unit's sales of $6.5 billion were flat on a non-GAAP basis compared to a year ago. Not bad, considering server and storage revenue each declined by 2% and 5%, respectively. But a 12% jump in the division's networking business and 1% improvement from tech services made up for its other shortcomings.
Change is in the cards at HP Enterprise, and that can be worrisome for investors -- or an opportunity. That said, Whitman summed up her strategic moves perfectly in a recent interview, saying HP Enterprise will succeed because "the next five years is going to belong to the nimble, the fast, and the focused." And HP Enterprise is quickly becoming all of those things.
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