The tech sector has been on a roller-coaster ride over the past few years. However, hardware stocks like HP Inc. (NYSE:HPQ) have been exhibiting more modest price movements. HP is a well-known computer and printer manufacturer on a global scale, known for producing quality products. While currently trading at an inexpensive valuation, the company is experiencing some growth challenges. Therefore, I am neutral on the stock.
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Cyclicality Yields Risk
When it comes to both individuals and businesses, technology spending is often a discretionary expense and therefore exhibits cyclicality. A strong economy and consumer sentiment usually lead to higher sales. In the current macroeconomic period, when many analysts fear a recession in the U.S., technology hardware sales face some uncertainty ahead.
Sales Breakdown
HP’s sales can be categorized into three major segments: Personal Systems (including desktops, laptops, and related peripherals), Printing (inkjets, laser printers, 3D printing, and related supplies for personal and industrial use), and Corporate Investments.
For the 2022 Fiscal Year that ended October 31, 2022, revenue from the Printing segment amounted to 30% of total sales compared to almost 70% for the Personal Systems segment. In fact, laptops covered the largest portion of Personal Systems sales, at 66%. Meanwhile, Corporate Investments generated negligible amounts of revenue.
Trailing Three-Year P&L History
Despite some significant fluctuations in bottom-line earnings, sales have remained strong since falling in Fiscal 2020. The company received a substantial boost from the COVID-19 pandemic when a large number of consumers chose to upgrade their tech devices in order to cover remote work needs or simply to enjoy a bit more of the stay-at-home lifestyle.
In Fiscal 2022, HPQ managed to sustain its gain in sales recorded during the pandemic. Revenue amounted to $62.98 billion for the year compared to $63.49 billion in Fiscal 2021.
As it relates to profitability, HPQ displays a relatively small 19.6% gross margin. Its gross margin has been persistently low over the past five years, hovering between 18% and 21%. On the other hand, EBITDA and net margins are still at respectable levels, compared to industry norms, at 9.6% and 5.1%, respectively.
The Warren Buffett Stamp of Approval
Warren Buffett is known in the investment community for his commitment to finding attractively valued companies to generate superior returns over time. Berkshire maintains a $3.2 billion, 11% stake in HPQ, initiated in the spring of 2022. The estimated price of Buffett’s transaction hovers around $32-$36 per share.
Buffett’s long position in HP underlines his favorable view of the company in the long term as well as the ability to achieve superior returns due to the stock being undervalued.
The transaction came during a period when the legendary investor hesitated to employ cash towards equities, hinting that he thought the broader market was overvalued. Since then, HPQ’s stock price has declined by 15%, offering investors an even better value premise.
Dividends and Buybacks Boost Returns for Investors
HP currently offers an attractive 3.6% dividend yield, higher than the market and sector average. Over the past five years, distributions have grown at a 13.5% compound annual growth rate (CAGR), and over the last three years, growth has accelerated further at 15.5%.
HP’s dividends are supported by the company’s strong cash flows, and the yield is broadly considered safe as the company maintains a low payout ratio.
Significant amounts of cash have also been employed towards share repurchases. HPQ’s average share count has decreased from 1.9 billion in 2014 to 982 million in 2023. For the 2022 Fiscal Year, the company returned $5.3 billion to shareholders through dividends and buybacks.
Valuation Sparks Interest
HP Inc. is currently trading at inexpensive valuation multiples, offering investors an interesting value opportunity. HPQ trades at 7.1x price/earnings (non-GAAP), 6.4x price/cash flow, and 0.5x price/sales. On all accounts, the stock is inexpensively valued compared to peers, while the majority of the forecasted decline in sales and earnings in the near term appears to be priced in.
For 2023, both analysts and management expect a high-single-digit decrease in sales and a double-digit decrease in EPS. The company is likely to recover from 2024 onwards, recording very mild growth.
Is HPQ Stock a Buy, According to Analysts?
Turning to Wall Street, HP Inc. has a Moderate Sell consensus rating based on six Holds and three sells assigned over the past three months.
The average HPQ stock price forecast of $28.94 represents 1.06% downside potential, with a high price forecast of $33 and a low forecast of $24.
The Takeaway
After all things are considered, HPQ is clearly facing some struggles in the near term, mainly in terms of revenue and EPS declines. However, the company also maintains relatively strong financials and a reputable brand name that is likely to generate good amounts of cash flow for years.
Investors that are bullish on HP Inc. would argue that the company will achieve superior returns through dividends, buybacks, and a cheap valuation while relying on a proven product line. Nonetheless, the near-term struggles leave me neutral.
