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HP’s Split Frees Up Units to Chase Deals

Hewlett-Packard Co. (HPQ) executives only had to utter three words to bring speculation of an EMC Corp. acquisition back to life.

Hewlett-Packard still possesses “material nonpublic information” that prevents it from buying back shares, Chief Financial Officer Cathie Lesjak said yesterday after the $69 billion company announced plans to split in two pieces. That suggests talks with EMC -- which were said to have stalled last month because of disagreements over a takeover price and management structure -- aren’t yet dead, said Longbow Research LLC. The breakup may even help facilitate a deal.

Hewlett-Packard is spinning off its personal-computer and printer operations into a company to be called HP Inc., leaving enterprise software and services as a stand-alone entity that could buy $58 billion rival EMC. Alternative merger partners for the enterprise business are NetApp Inc., Oracle Corp. (ORCL), International Business Machines Corp. or Cisco Systems Inc. (CSCO), according to FBN Securities Inc. As for the new HP Inc., that could eventually be sold to Lenovo Group Ltd., Dell Inc. or Acer Inc., FBN said.

“There’s some M&A information that is very material that they’re sitting on,” Amit Daryanani, an analyst at Royal Bank of Canada in San Francisco, said in a phone interview. “That’s what everyone is focusing on right now. Who knows what it is, but there’s certainly something in the hopper.”

Photographer: Simon Dawson/Bloomberg

Deal Permutations

After the breakup, Hewlett-Packard Enterprise will comprise some of the company’s faster-growing, higher-margin businesses and some of the areas where it leads the market, such as servers. The HP Inc. printer and PC unit, while slower-growing, generates steady cash flow.

Although each piece will still have its trouble spots and challenges -- Enterprise, for instance, will inherit the legally-embattled Autonomy and the ailing services unit acquired from Electronic Data Systems Corp. -- the separation frees up both parts of the Palo Alto, California-based company to pursue their own deals to try to stay competitive.

“What Hewlett-Packard probably figured is that the M&A permutations go up considerably” after breaking up, Shebly Seyrafi, a New York-based analyst for FBN, said in a phone interview. “Although they only talked about creating a more focused, more nimble company, I think the M&A part was a big part of the decision.”

A representative for Hewlett-Packard declined to comment beyond the executives’ remarks on the call. They said Hewlett-Packard Enterprise will pursue organic growth and “targeted” M&A, while HP Inc. will focus on internal investments and returning cash to shareholders.

Representatives for EMC, Oracle, Cisco and Lenovo declined to comment. Representatives for NetApp, IBM, Dell and Acer didn’t respond to phone calls or e-mails seeking comment.

Separated Value

Hewlett-Packard should be valued at about $40 a share in a breakup, according to sum-of-the-parts estimates from RBC’s Daryanani, as well as analysts at Raymond James Financial Inc. and Stifel Financial Corp. That’s 14 percent higher than the stock’s closing price last week.

Hewlett-Packard shares rose 4.7 percent to $36.87 yesterday.

Using valuation multiples for similar companies, HP Inc.’s enterprise value may be $28 billion, while Hewlett-Packard Enterprise’s may be $42 billion, Brian Alexander, an analyst for Raymond James, wrote in a note yesterday. Enterprise value is the sum of a company’s market capitalization, net debt, any minority interest and other adjustments.

Longer Term

While it’s not a large difference from Hewlett-Packard’s current value, the breakup is intended to do more than just give the stock a quick boost, Daryanani said.

“Near-term, it helps somewhat,” he said. “But the bigger thing would be, can these two entities be more successful being separate? They’ll be more nimble, they’ll be more shareholder friendly in their own right, so you have a better probability of success with these smaller entities versus the big conglomerate.”

Hewlett-Packard said it expects to complete the tax-free spinoff of HP Inc. by the end of fiscal 2015. Any interested suitors may have to wait longer than that to bid for the company. Typically, a business that undergoes a tax-free spinoff can’t be acquired for up to two years after the separation from the parent company because of rules imposed by the U.S. Internal Revenue Service.

EMC Consideration

A merger between EMC and Hewlett-Packard Enterprise could be on the horizon though. Management may have been referring to such a deal when they said there’s still material information that the company isn’t yet disclosing, according to Joe Wittine, an analyst for Longbow Research.

He estimates that to get a deal done, Hewlett-Packard will need to pay EMC $33 to $34 a share and that all or most of the offer will be stock. EMC closed at $28.46 yesterday.

“It seems like from piecing everything together, they came to an impasse on price,” Wittine said in a phone interview. The comments from the call “tell me they’re still considering things. So the deal may be ‘dead’ near-term, but not truly dead.”

http://www.bloomberg.com/news/2014-10-06/hp-s-split-frees-up...