HP’s Whitman Talks of Dell ‘Cratering’ Its Financials, And the DNA of Productivity

By Tiernan Ray

Following this afternoon’s report by Hewlett-Packard (HPQ) of fiscal Q2 revenue that missed expectations and profit per share that beat, and a higher-than-expected forecast for this quarter, CEO Meg Whitman was kind enough to talk with me by phone this evening.

The shares have rocketed in after hours, currently up $2.88, or almost 14%, at $24.11.

Whitman kicked things off by stating that “The turnaround is on track, and we did what we said we would do, which is important because this was an unpredictable company for a very long time.”

By that she means that the company has proceeded along a path laid out at its analyst day event in September. “We have focused on generating cash, and we have generated a lot of it,” she said, pointing out that total cash flow in the first two quarters of this fiscal year that began in November now totals the entire amount the company had projected for the full fiscal year.

But Whitman also went through the things that went right and went wrong last quarter. She emphasized that HP’s “enterprise services” business has “stabilized,” with operating profit up 1.3 points last quarter from the prior quarter, to 2.6%. “We will get some kudos for that.”

The company’s “3Par” storage product saw sales rise 82%, noted Whitman. “It is the perfect storage product for the new style of IT,” she said.

The company’s networking business continued to grow, and the company formally unveiled its “Project Moonshot” server family.

On the topic of services, Whitman notes that there has been some benefit from a slower “runoff” of large customers. What she means is that three large customers had previously stated their intention to transition away from HP’s offerings, because they were “changing their approach for outsourcing,” says Whitman, but that hasn’t played out quite as expected.

“We had forecast a runoff in 2013, and it turns out that is happening more slowly. Customers are slowing it down because these transitions are more challenging than they expected. We’re actually doing a good job of managing their transitions for them.”

The downside of better-than-expected services revenue now, concedes Whitman, is that “It will be harder to grow enterprise services in 2014.”

What does she plan to do about that, I asked. “We have brought on a new head of sales, we are really working on strategic enterprise services, on Big Data, working on mobility for our clients, and security, things such as apps modernization. We’ll use all of those things to try to make up for some of that expected challenge in 2014.”

Personal Computers, of course, were a less glowing side of results, with sales in the “Personal Systems” unit down 20%, year over year. “PCs continued to decline, and our industry-standard server performance was not what we hoped it would be,” thanks in part to aggressiveness on the part of Dell (DELL), “but we did the right things in terms of managing the balance between share and profitability,” said Whitman.

As far as Dell is concerned, I asked Whitman what she will do if Dell continues to pursue aggressive price cuts as it rolls through an M&A battle between CEO Mike Dell and activist Carl Icahn that seems to leave the company caring little about profit.

Whitman responded,

Well, they [Dell] really cratered their earnings, you’re right, and that the strategy you pursue when you are going private, and you’re basically going to take on a big chunk of debt and try to then take it public again at a higher price. But we have competed for a long time with very aggressive competition, from Acer some years back, Lenovo, Dell IBM (IBM). We have to figure out a way to compete regardless of who the competitor is. It’s about how do we get the right product for the right product segment, and have it be appropriately featured. How do we revive the channel in such a way that they love doing business with us. Listen, we’re always going to have very good competitors, we have to be able to compete, to constantly improve our cost structure. It comes back to the notion of continuous improvement.

I noted that the quarter saw some decent quarter-over-quarter operating margin improvement (see my earlier post on the changes in operating margins), and I asked Whitman how much of that improvement was permanent.

“We undertook a restructuring program because I said we had to get costs in line with revenue and we had to regain the capacity to invest; we’re slightly ahead of plan on that,” said Whitman.

“Now, revenue was down 10% last quarter, and operating expenses were only down 5%. So, some people would say, why didn’t you cut it by more. The answer is that as we’ve made restructuring progress, then we reinvested some of those savings in the business.”

But Whitman said HP cannot simply rely on cuts. “We can’t take more charges beyond what we have now,” she said.

“We must build productivity into the DNA of the whole company” rather than hoping for “episodic” cost savings:

Efficiency has been a bit episodic in this company. There was this pattern of taking out some costs, and then going back to the way we were. We can’t go back to the way we were. We have to get improvements in supply chain, greater agility, the right matching of product to customer needs. We have to create a new operating muscle at this company that isn’t episodic but regular. General Electric (GE) has done it, many companies have done this. This is what really great companies do. We have to build this into our DNA.

Lastly, I asked Whitman about Cisco Systems (CSCO), which hopes to push aside HP in CEO John Chambers‘s quest to be the ultimate IT provider. I note that Chambers has always been very complimentary toward Whitman in his remarks.

Allow me to return the compliment. I have a lot of respect for John Chambers. And he helped me a lot when I was at EBay (EBAY). We feel very good about our competitive position. We grew 2% in switching last quarter, they were actually down 2%. As far as selling solutions, we’re competitive in that market. We actually coined the term “converged infrastructure.” With our services arm we have the advantage we need to sell solutions to these companies. We are the only company that can go all the way from the device to the data center. We just have to get our divisions to dance well together. But I truly believe we are differentiated by the breadth of our product line. Some people think it’s a concern, but I think it’s a real positive for us.