Fundamental Analysis of Hewlett Packard - Essay Example

10 December Fundamental Analysis of Hewlett – Packard Introduction Hewlett Packard is a technology corporation, situated in California. The company specializes in developing network hardware, storage, software and services. The primary product lines of the company include activity servers, personal computing hardware and linked storage. Hewlett Packard is considered as one of the biggest technology companies of the world. In 1939, Stanford Graduates Bill Hewlett and Dave Packard formed HP. The company initially started with technology solutions to businesses, consumers and all forms of institutions. It later expanded itself to providing operations to IT infrastructure, access devices, personal computing, imaging and printing services and global services. Hewlett Packard possesses number of competitors in its industry, which include Apple, IBM, Gateway, Canon and Dell. In 2006, it outperformed its competitor Dell in terms of Market Share. HP emphasizes on simplifying the experiences of technology for its customers, which includes individual customers as well as large institutions and businesses. HP possesses a wide portfolio consisting of products related to personal computing, spans printing, IT infrastructure, software, hardware etc. In, 2007, HP acquired a revenue of $100 billion. The company has been operating in its field for past 70 years. 1.1. Statement of Purpose Acknowledging the significance of the company in its relevant field, this report aims to provide a detailed analysis of the company. This report consists of two major parts. First part of this report encompasses the qualitative information about the company, which includes objective of the company, products manufactured by the company, its target market and competitive edge. The second part incorporates the financial analysis of the company, which includes evaluation of income statement, balance sheet, cash flows and ratio analysis for the past 3 years i.e. 2011, 2010, and 2009. Based upon these analyses, recommendations will be made for investors whether or not to invest in the company. 2. Qualitative Analysis For investor relations, qualitative information is equally important as quantitative information. It allows the investors to gain insights related to the objectives and prevailing operations of the company. Investors cannot take decisions just on the basis of numeric figures. The reason is that sometimes companies manipulate their numeric figures and overstate the figures of profitability. Therefore, qualitative analysis is also studied carefully in order to provide recommendation to investors. The more a company is inclined towards expansion, the more are the chances for it to provide profits to investors. Qualitative analysis of HP has been mentioned in the subsequent sections of this paper. 2.1 Objective of the Company The primary objective of the company is to serve the technology based needs of customers. The company’s major corporate objectives include: Customer Loyalty; HP earns customer loyalty and respect by consistently providing value and the best quality Growth; HP acknowledges and grabs opportunities for growth, which builds upon their competencies and strengths. Profit; the company generates sufficient profits to create value, finance growth and achieve its corporate objectives. Market Leadership; HP leads in market place by designing and delivering innovative and useful products, solutions and services. Commitment to Employees; HP shows commitment towards its employees by rewarding and promoting them, based on their performance and by creating an environment that reflects their values. Global Citizenship; HP claims to fulfill its responsibility to communities by being intellectual, economic and social to where they do business. Leadership Capability; The Company claims to develop leaders who achieve business results, lead to win and grow and exemplify company’s value (HP CORPORATE OBJECTIVES AND SHARED VALUES). 2.2 Products Manufactured There are huge varieties and number of products of HP, which are sold all over the world. Product mix of HP has been given below. Printers; officejet, colorjet, laserjet, photosmart, deskjet Digital camera; HP R-Series, Original lines, HP M-Series, HP E-Series Scanners; scanjet series Pocket Computers; Omni go, Series, Jornada, Lx Smart phones and PDAs; Smart phones and IPAQ PDAs Business Computers; X-terminal, HP touch smart PC, Business Desktop Desktop Calculators; Pocket calculators, plotters, computer terminals Laptops; HP Slate 500 TABLET, Elitebook, pavilion, Presario, mini pro Thin clients; thin client and blade system Notebooks, omnibook, mini book, elite Servers; Pro liant series, intel and AMD opteron Storage works, tele presence and pro curve Monitors; HD, LCD, FULL HD And many more 2.3 Target Market Target market is that homogenous group of people to whom the product is marketed. There are various basis of identifying target market. It can be done on the basis of geographic location, age, gender, income group etc. In relation to HP, the company possesses huge target market. Nowadays, almost every household possesses at least one personal computer which validates that computer are more popular in today’s society than ever before. For HP, target market includes institutions such as colleges, schools, universities, offices, banks etc. They are huge users of computers and use computers for various tasks such as looking up for information, projects, internet, typing etc. Businesspersons also need computers since they need to store huge database of information, record keeping, making invoices, storing important files, cash flow statement and even having conferences and meetings. Businesses utilize computer also as a mode of advertising. As the time passes on, people are getting more and more involved in computer related activities. This era is considered as era of technological evolution, which brings numerous inventions along with it. Therefore, HP possesses a huge target market to cater with its products. 2.4 Competitive Edge/ Differentiating Factor HP’s competitive edge lies in its wide range of product lines. The company has been in the business for several decades, which has strengthened the position of the company. It has remained the market leader of its industry for many years and has enjoyed abnormal amounts of profits. The emergence of technological products and services in the past few years has put intense pressure on HP to compete with competitors. Due to the entrance of other major competitors into this industry, HP has lost a substantial market share and customer base. The company’s core competency used to lie among its product lines and technology. It has started losing its core competency and therefore, need to come up with a new competitive advantage. The company claims that its core competency lies in its sustainability, but in order to sustain in a business, a company needs a differentiating factor through which it can sustain itself. 2.5 Competitors The major two competitors of HP are Apple and Dell. Both these competitors are multimillion companies with tremendous sales turnover and huge volumes of production. 2.5.1 Dell Inc Dell is considered as largest mail order computer seller in the world. It has established in 1984 by Michael Dell. Since then, it has built its reputation by delivering top quality PCs at highly competitive prices. Instead of developing their own expensive parts, Dell’s strategy emphasizes on building less expensive standardized parts. Dell then utilizes these parts to driving their competencies and developing standardized machines, which makes it one of the major competitors in the IT industry. Dell possesses a competitive advantage in their cost control and customer experience. At Dell, customers can order personalized computers just by sitting at home. It prevents customers from the hassle of going to computer stores and searching for the right computer that fits their demands. 2.5.2 Apple Inc The second major competitor is Apple. In 1984, Apple first introduced its Macintosh computers. They are now considered as the leading forces in IT industry. Products of Apple Inc.’s possess unique application-base, designs, graphics, built-in networking and multimedia capabilities. The company offers wide range of products including notebooks, desktop computers, software and networking, related peripherals and connectivity products. The company understands what its customers actually want and feel excited about and then executes on that vision. The distinguishing feature of Apple is that it does not focus on technology or features but rather about how computers can make the lives of its customers better. Apple has highly innovative designs for its computers. 3. Financial/ Quantitative Analysis Quantitative provides a glance of the overall performance of the company in terms of numeric figures. There are various ways of performing qualitative analysis. Some of them include common sizing of income statement and balance sheet, cash evaluation and ratio analysis. A detailed qualitative analysis of HP has been mentioned in the subsequent parts of this paper. 3.1 Income Statement Income statement is helpful for investors since they provide insights about the overall earnings and expenses of the company. The higher are the profits (compared to industry or previous years), the better is the performance of the company. The income statement of HP for the past three years can reveal increase or decrease in profits of the company year by year. Common sizing income statement helps us in getting idea about each item in percentage terms. Through, common sizing, it becomes easier to understand the changes (McClure, Fundamental Analysis: The Income Statement). By looking at the income statement, it gets clear that gross profit of the company has remained quite stable in the past three years. The company has gross profit of 23.35%, 23.76% and 23.59% for the year 2011, 2010 and 2009 respectively. There is also no substantial difference among earnings from operation, which has remained 7.61%, 9.11% and 8.85% for the previous three years. Net earnings or profit of the company was reported as 5.56%, 6.95% and 6.69% for the past three years. By looking at the above-mentioned figures, it is quite evident that there is no substantial increase in the annual earnings or profits of the company. In fact, the net earnings have actually reduced to certain extent. The reason of this reduction can be increased level of intense competition. Many other competitor have started portraying themselves as strong players in the industry, thereby cannibalizing the market share and customer base of HP. The detailed analysis of those competitors has already been mentioned earlier. In order to improve its income streams, the company needs to attract more customers and retain previous ones. Without proper marketing and strategic plan, it can be difficult for the company to survive the competition in near future. Moreover, the company has very less emphasis on advertising, which is an integral part of a business. Therefore, it needs to invest more on advertising to let the customer know about their new products and services. 3.2 Balance Sheet Balance sheet provides a snapshot of what company owes and owns. There are three main parts of balance sheet, providing different meanings. If analyzed carefully, balance sheet can tell investors about fundamentals of the company. As far as assets are concerned, there are two major types of assets; they are current assets and non-current assets. Current assets are those, which can be easily converted into cash within the period of one year. Some important currents assets found on the face of balance sheet are cash, accounts receivables and inventory. For investors, current assets are important. Usually, investors are attracted to those companies, which have plenty of cash. The reason is that cash safeguards the company in case of tough times. Growing reserves of cash are a signal of strong performance of company. In the balance sheet of HP, we can see that the company’s cash reserves are declining as the time passes on. The percentages of cash are 6.21%, 8.78% and 11.57% for years 2011, 2010 and 2009. It is quite evident that the cash reserves of the company are declining year on year. Inventories are another important aspect to be considered. Investors are usually concerned about inventories in order to know how much inventory has been tied up. The inventory position of HP is stable at 5%, which means that company keeps its’ inventory in rolling. As far as long-term liabilities or non-current liabilities are concerned, if the amount of debt is falling it is a good sign for investors. For HP, we can see that long-term for the past three years is 17.41%, 12.26% and 12.18%. It clearly shows that long-term debt of the company is increasing which is not a good sign for investors. Another important aspect of balance sheet is Equity. Equity represents the holdings of the company. The higher the amount of equity, the stronger is the backbone of the company. Investors see the figures of equity to determine how much the company owns. For HP, we can see that in percentage terms, the amounts of equity for the past 3 years are 30.11%, 32.76% and 35.51% as of 2011, 2010 and 2009 respectively. It is not a good sign for investors that the equity of the company has been decreasing year on year (-NYSE). 3.3 Cash Flows The most meaningful of the entire financial statements is the cash flow statement of a company. Cash flow statement determines how much the company has in hand in real terms. The amount of revenues, which are discussed in income statements are mostly the credit sales of the company whereas in cash flow statements, the original amounts are present, therefore it reveals the actual financial position of the company. There are three components of cash flow statements. They are: i. Cash flow from operating activities ii. Cash flow from investing activities iii. Cash flow from financing activities i. Cash flow from operating activities Investors tend to prefer those companies, which state a net positive cash flow from their operating activities. High growth firms such as technological companies report a negative cash flow from operating activities. If the cash flow from operating activities is going up, normally it is considered as a good sign (Little). Cash flow from operating activities of HP for the years 2011, 2010 and 2009 are 12,639,000, 11,922,000 and 13,379,000 respectively. It clearly indicates that the company’s cash flow from investing activities is not showing positive signs and is even declining.    ii. Cash flow from investing activities This section represents how much the company has invested in capital investments. The company has reported negative cash flows from investing activities, which is not a good sign. iii. Cash flow from financing activities The figures of cash flow from financing activities for the year 2011, 2010 and 2009 are (1,566,000), (2,913,000) and (6,673,000) respectively. The higher the amount of cash flow from financing activities, the better it is for company. The amount of cash flow from financing activities is not so favorable ((HPQ)). 3.4 Ratio Analysis The most important and wide spread means of analysis is ratio analysis. It provides a snapshot of the financial performance of the companies in forms of ratios. From investor’s point of view, two types of ratios are very most significant. They are: 1. Profitability Ratios 2. Investment Ratios Profitability Ratios Overall, profitability ratios represent the profitability position of a company. The ratios, which are covered under this section include: i. Return on Ordinary Shareholder's Funds This ratio reveals how much profit the company has for its shareholders. For HP, this ratio has been reported as 25.05%, 28.38% and 25.02%. The ratio is quite stable for the company. Yet, the company needs to maintain the growth of this ratio in order to attract potential shareholders as well as investors.   ii. Return on Capital Employed This ratio reveals the return, which the company generates on its capital investments. This ratio must be higher than the borrowing rate of the company. Otherwise, if the borrowing rate is higher than it will reduce shareholders’ earnings. For HP, return on capital employed for the past three years has been 7.47%, 9.2% and 8.3% respectively. It means that the company does not have much favorable return on its investments. The rate must be even higher than this in order to provide substantial earnings to the shareholders. iii. Operating Profit Margin This ratio reveals the proportion of the revenues of the company, which has been left after deducting cost but before deducting interest and taxes. An increasing or high operating profit margin ratio is preferable to investors because it tells that the company is earning more on each dollar of sales. Operating margin shows profitability of company when compared with previous years or with its competitors. For the last three years i.e. 2011, 2010 and 2009, operating margin ratio of HP has been 7.6%, 9.11% and 8.5% respectively. It is neither good nor bad but if the company moves on with the same speed then there are concerns for investors. This ratio needs to be increasing in order to attract investors to make investment in the company. HP seems to have difficulties in this ratio. iv. Gross Profit Margin This ratio measures the profitability of a company generated from its core activities, excluding the fixed costs. This ratio measures how much the company is earning on each dollar in order to cover its overhead expenses. A high gross profit margin ratio indicates that the company can generate reasonable profits as long as its overhead cost is kept in control. A low ratio of gross profit indicates that the company is not being able to control its production and processes’ cost. The gross profit margin ratio of HP has remained stable at 23% for the past three years. It is relatively high as compared to industry averages, which means that the company is covering its overhead cost in an easier manner (Stock Analysis). Investment Ratios i. Dividend Payout Ratio Dividend payout ratio tells the percentage of the earnings that is paid to shareholders/ investors. Investors certainly prefer to invest in those companies, which have relatively higher payout ratio since they will gain higher return on their investments. The dividend payout ratios of HP for the past three years are 12%, 8% and 10% respectively. It means that company provides good returns to its investors but at the same time, its rate of return keeps on fluctuating, yet remaining on an increasing trend. ii. Dividend Cover Ratio This ratio explains the capacity of the company to pay out dividends. The formula provides an absolute value instead in percentage terms. Therefore, if the ratio is greater than 1, then it means that the company has sufficient earnings to pay out its shareholders with dividends. The dividend cover ratios of HP for 2011, 2010 and 2009 are 8.44, 11.81 and 10.03. It states that company is paying hefty amount of dividend to its preferred shareholders. iii. Dividend Yield Ratio This ratio reveals how much cash flow the company is generating at each dollar invested. Dividend yield ratio of 1.52%, 0.78% and 0.63%. These percentages reveal that company is not generating adequate amount of cash flows out of its investments. iv. Earnings Per Share This ratio reveals how much company is earning at each share. The EPS of HP is 3.38%, 3.78% and 3.21% for the years 2011, 2010 and 2009. This is a consistent earning that the company has maintained for the past three years. It reveals that company is giving an average of 3% return on each share (McClure). v. Price/Earnings Ratio For investors, this ratio is of highest importance. It tells the company’s current share prices as compared to its earning on each share. A high P/E ratio reveals that investors are expecting higher earnings on their investments. Price/earnings ratios of HP are 7.8, 10.91 and 15.75 for years 2011, 2010 and 2009. It can be seen that P/E ratio of HP are higher but on the other hand, for the past three years, they are continuously declining which shows lack of confidence of investors in this stock. 4. Recommendations for Investors The above information provides a brief analysis about the performance of Hewlett-Packard. The company has enjoyed significant market share and customer base in previous years but in the recent years, it has started to lose its market share and customer base. The primary reasons behind these factors were entrance of major competitors and loss of core competency of the company. The company claims that its core competency lies in its sustainability but as mentioned earlier, for remaining sustainable in a business, a company needs a competitive advantage. For investors, both the qualitative and quantitative analyses are essential. Qualitative analysis of HP supports the company in gaining more investors since there are no apparent flaws in the qualitative side of the company. However, quantitative analysis provides a critical presentation of the company to potential investors. The company’s profitability position does not look good. For the past few years, due to the earlier mentioned issues such as intense competition, other competitors have started to cannibalize the market share and customer base of the company. Investors also need to consider investment ratios. For HP, investors ratios are quite favorable to gain more numbers of investors however, the profitability position does not seem good. Therefore, it can be recommended that investors can earn short-term profits by buying the stocks of the company, but long-term prospects of the company cannot provide substantial returns to its investors. Company needs to rebuild its brand image and competitive position in the industry in order to sustain in its relevant industry. Works Cited Fundamental Analysis: The Income Statement. n.d. 10 December 2012 . (HPQ), Hewlett-Packard Company. finance.yahoo. n.d. 10 December 2012 . HP CORPORATE OBJECTIVES AND SHARED VALUES. Our Corporate Objectives. n.d. 09 December 2012 . Little, Ken. Tools of Fundamental Analysis. n.d. 10 December 2012 . McClure, Ben. Fundamental Analysis: The Cash Flow Statement. n.d. 10 December 2012 . NYSE, Hewlett-Packard Company (HPQ). finance.yahoo. n.d. 10 December 2012 . Stock Analysis. Hewlett-Packard Co. (HPQ). n.d. 10 December 2012 . 5. Appendices  Income Statement 31-Oct-11 31-Oct-10 31-Oct-09 Products 66.61    67.28    64.64    Services 33.04    32.39    35.03    Financing income 0.35    0.33    0.33    Net revenue 100.00% 100.00% 100.00% Cost of products -51.21    -51.62    -49.33    Cost of services -25.19    -24.38    -26.80    Financing interest -0.24    -0.24    -0.28    Gross profit 23.35% 23.76% 23.59% Research and development -2.56    -2.35    -2.46    Selling, general and administrative -10.58    -9.99    -10.14    Amortization of purchased intangible assets -1.26    -1.18    -1.38    Impairment of goodwill and purchased intangible assets -0.70    –    –    Restructuring charges -0.51    -0.91    -0.56    Acquisition-related charges -0.14    -0.23    -0.21    Pension curtailments and pension settlements, net –    –    –    Earnings from operations 7.61% 9.11% 8.85% Interest expense -0.43    -0.33    -0.52    Other income (expense), net -0.11    -0.07    -0.11    Interest and other, net -0.55% -0.40% -0.63% Earnings before taxes 7.06% 8.71% 8.22% Provision for taxes -1.50    -1.76    -1.53    Net earnings 5.56% 6.95% 6.69% Consolidated Statement of Liabilities and Stockholders' Equity 31-Oct-11 31-Oct-10 31-Oct-09 Notes payable and short-term borrowings 6.24    5.66    1.61    Accounts payable 11.39    11.54    12.90    Employee compensation and benefits 3.09    3.42    3.55    Taxes on earnings 0.81    0.64    0.79    Deferred revenue 5.75    5.40    5.39    Accrued restructuring 0.50    0.73    0.97    Other accrued taxes 1.86    2.58    2.43    Warranty 1.37    1.42    1.55    Sales and marketing programs 2.56    2.71    2.37    Other 5.37    5.57    5.91    Other accrued liabilities 11.16% 12.29% 12.26% Current liabilities 38.95% 39.68% 37.46% Long-term debt 17.41    12.26    12.18    Pension, post-retirement, and post-employment liabilities 4.18    5.42    5.60    Deferred tax liability, long-term 3.99    4.21    3.68    Long-term deferred revenue 2.67    2.65    2.83    Other long-term liabilities 2.69    3.02    2.74    Other liabilities 13.53% 15.31% 14.85% Long-term liabilities 30.94% 27.56% 27.03% Total liabilities 69.89% 67.24% 64.49% Preferred stock, $0.01 par value –    –    –    Common stock, $0.01 par value 0.02    0.02    0.02    Additional paid-in capital 5.28    9.29    12.02    Prepaid stock repurchase –    –    –    Retained earnings 27.23    26.26    26.08    Accumulated other comprehensive income (loss) -2.70    -3.08    -2.83    HP stockholders' equity 29.82% 32.49% 35.29% Non-controlling interests 0.29    0.27    0.22    Total stockholders' equity 30.11% 32.76% 35.51% Total liabilities and stockholders' equity 100.00% 100.00% 100.00% Common-Size Consolidated Statement of Financial Position, Assets Oct 31, 2011 Oct 31, 2010 Oct 31, 2009 Cash and cash equivalents 6.21% 8.78% 11.57% Accounts receivable 14.07% 14.84% 14.41% Financing receivables 2.44% 2.40% 2.33% Inventory 5.78% 5.19% 5.34% Deferred tax assets, short-term 4.15% 4.69% 4.34% Value added taxes receivable from various governments 1.91% 2.70% 2.31% Supplier and other receivables 2.13% 2.20% 3.00% Prepaid and other current assets 2.69% 2.72% 2.48% Other current assets 10.89% 12.31% 12.13% Current assets 39.39% 43.52% 45.77% Property, plant and equipment 9.49% 9.45% 9.81% Financing receivables, net 3.10% 2.88% 2.88% Deferred tax assets, long term 0.99% 1.66% 1.52% Other 4.21% 5.28% 5.43% Long-term financing receivables and other assets 8.30% 9.82% 9.83% Goodwill 34.40% 30.91% 28.84% Purchased intangible assets 8.41% 6.30% 5.75% Noncurrent assets 60.61% 56.48% 54.23% Total assets 100.00% 100.00% 100.00% Period Ending Oct 31, 2011 Oct 31, 2010 Oct 31, 2009 Net Income 7,074,000   8,761,000   7,660,000   Operating Activities, Cash Flows Provided By or Used In Depreciation 4,984,000   4,820,000   4,780,000   Adjustments To Net Income 1,468,000   895,000   843,000   Changes In Accounts Receivables (227,000) (2,398,000) (549,000) Changes In Liabilities 885,000   25,000   580,000   Changes In Inventories (1,252,000) (270,000) 1,532,000   Changes In Other Operating Activities (293,000) 89,000   (1,467,000) Total Cash Flow From Operating Activities 12,639,000   11,922,000   13,379,000   Investing Activities, Cash Flows Provided By or Used In Capital Expenditures (4,539,000) (4,133,000) (3,695,000) Investments (28,000) 149,000   11,000   Other Cash flows from Investing Activities (9,392,000) (7,375,000) 104,000   Total Cash Flows From Investing Activities (13,959,000) (11,359,000) (3,580,000) Financing Activities, Cash Flows Provided By or Used In Dividends Paid (844,000) (771,000) (766,000) Sale Purchase of Stock (9,221,000) (8,425,000) (3,303,000) Net Borrowings 8,336,000   5,989,000   (2,766,000) Other Cash Flows from Financing Activities -   -   -   Total Cash Flows From Financing Activities (1,566,000) (2,913,000) (6,673,000) Effect Of Exchange Rate Changes -   -   -   Change In Cash and Cash Equivalents (2,886,000) (2,350,000) 3,126,000 Profitability Ratios Formula     2011   2010   2009     Return on Ordinary Shareholder's Funds Operating Profit- Preferred Dividends x 100 9,677,000 25.05% 11,479,000 28.38% 10,136,000 25.02%   Ordinary Share Capital + Reserves 38,625,000 40,449,000 40,517,000       Return on Capital Employed Operating Profit x 100 9,677,000 7.47% 11,479,000 9.22% 10,136,000 8.83%   Share Capital + Reserves+ Non-current Liabilities 129517000 124503000 114799000       Operating Profit Margin Operating Profit x 100 9,677,000 7.61% 11,479,000 9.11% 10,136,000 8.85%   Sales 127,245,000 126,033,000 114,552,000       Gross Profit Margin Gross Profit x 100 29,716,000 23.35% 30,077,000 23.86% 27,063,000 23.63%   Sales 127,245,000 126,033,000 114,552,000                     Investment Ratios Formula     2011   2010   2009   Dividend Per Year 838 12% 742 8% 764 10% Dividend Payout Ratio Earnings for Dividend per Year 7074 8761 7660         Earnings for Dividend per Year 7074 8.44 8761 11.81 7660 10.03 Dividend Cover Ratio Dividend Per Year 838 742 764         Dividend Per Share 0.4 1.52% 0.32 0.78% 0.32 0.63% Dividend Yield Ratio Market Value per Share 26.38 41.23 50.56         Earnings available for Shareholders 7660 3.38 8761 3.78 7660 3.21 Earnings Per Share Number of Ordinary Shares issued 2094 2319 2388         Market Value per Share 26.38 7.80 41.23 10.91 50.56 15.75 Price/Earnings Ratio Earnings Per Share   3.38   3.78   3.21   Read More