Poor HP Earnings Dim Hopes for Tech

Investors looking for evidence that the tech sector has rounded recession's corner were disappointed by results released Aug. 18 by Hewlett-Packard (HPQ). The world's largest maker of computers said profits tumbled 19% and that while business conditions are becoming more stable, pricing battles are likely to erode profit further. "We're encouraged by the stability we're beginning to see in the market but not yet ready to call it a turn," Hewlett-Packard CEO Mark Hurd told analysts on a conference call discussing the results.

HP, one of the first tech companies to offer a glimpse into July demand, said fiscal third-quarter sales slid 2.1%, to $27.5 billion, amid slumping demand for computers and printers, particularly in Europe, and as consumers slaked their thirst for so-called netbooks, stripped-down machines that provide Web access but cost far less than traditional notebooks and other computers. Profits fell to $1.64 billion, or 80¢ a share.

For the fiscal year, HP expects revenue and earnings to come in around the midpoint of targets issued in May, when the company said it expected a profit of $3.76 to $3.88 a share on a 4% to 5% drop in revenue. Whether HP meets that goal depends in large part on whether consumers will ring up normal back-to-school and holiday shopping sales. Businesses are expected to largely sit out large purchases until next year, despite the Oct. 22 introduction of Windows 7, the new version of Microsoft's (MSFT) marquee operating system.

A Market Bottom? "At the end of the day, if you're trying to look at the forest and not pick apart any individual tree, tech fundamentals have bottomed," says Brent Bracelin, senior analyst at Pacific Crest Securities. "Now the debate is going to shift to what's the slope of the recovery going to look like."

Part of the reason for the caution is weakness in Europe, where HP's sales tumbled 12% and other tech companies including Intel (INTC) say the pace of recovery is uneven. "Europe has been a very tough market," HP Chief Financial Officer Cathie Lesjak said on the conference call.

Sales in the PC unit fell 18%, to $8.4 billion, while unit shipments grew 2%. Aside from the shift to low-cost netbooks, HP was also beset by falling prices on mainstream notebooks. Meanwhile, PC component prices such as LCD panels and memory have begun to creep up, slicing profit.

Hurd said HP continues to boost its market share in PCs and industry-standard servers even though the company has not been aggressively lowering prices to fend off rivals such as Acer and Dell (DELL). Researcher Gartner (IT) last quarter said HP boosted its leading worldwide market share 2 percentage points, to 19.6%, while Dell lost share to Acer. Though Gartner and research firm IDC have not reported third-quarter market-share figures, HP expects to post continued gains, Hurd said. Those gains "surprise us a little, based on the way we have been pricing," he told analysts. "We have not been doing anything intentionally from an aggressive pricing point in this economy."

HP's core printing business continued to struggle. Sales retreated 20%, to $5.7 billion as both ink supplies and hardware posted double-digit declines. Hurd said HP is fixing inventory problems that have plagued the business all year, but predicted the business will not turn around until next year. "We've seen incremental improvement in demand," he said.

The one bright spot was in services, where HP benefited from its recent acquisition of EDS. The segment contributed about a third of the company's profits during the quarter. EDS helped HP increase services revenue 93%, to $8.5 billion. The profit margin was 15%, up from 13% a year earlier. Software revenue fell 22%, to $847 million.

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