HP Is Alive: Estimate Reveals Staggering 176% Undervaluation Based On Extreme Optimism

Feb 29, 2020
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Personal computing and hardcopy peripheral manufacturer HP Inc (NYSE:HPQ) has been in the news lately for nearly all the wrong reasons. HP, which has a market value of roughly $30 billion is busy fending off acquisition attempts from its smaller rival in the printing industry, Xerox Holding Corporation. Xerox is roughly worth $6 billion on the stock market and the company's management has moved aggressively in its bid to convince HP's management and shareholders for a potential acquisition.

HP's management, for its part, has repeatedly stated that Xerox's offer undervalues the company and is therefore not in the best interest of shareholders. At the start of this week, HP also provided details in addition to its restructuring plan. These details include margin improvement and market size estimates, which we've factored in to analyze the company's current share price.

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The main reason today's analysis reveals a startling upside to HP's share price is the company's belief that the personal computing market will grow to $330 billion by the end of the calendar year 2022. Based on the company's net sales from its personal systems segment and its market share of the market in 2019 provided by Gartner, the total value of the personal computing market at the end of 2019 comes out at $174 billion.

HP's $330 billion estimates provide a compound annual growth rate of 24% for the three years between 2021 and 2022 end. Using a 24% CAGR with this year's market size lets us project the total personal computing market for the next three years, and making modest assumptions of HP growing its market share in the area lets us estimate the company's revenues in personal systems up to 2022.

In essence, should the personal computing market stand at $330 billion at the end of the calendar year 2022 and HP maintain its market share, then the company stands to effectively double personal system net sales. The overly optimistic CAGR of 24% is not the only factor factored in today's analysis. Net sales provide top-line growth, and to further boost investor confidence, HP's management has also provided operating margins for the personal computing and printing segments showing that it expects to channel more of these earnings to investors in the future.

By 2022, HP hopes to achieve operating margins between 3.5% and 5.5% in personal systems, and between 16% and 18% in printing. Their effect on operating income is shown above, and on the company's value is shown below.

In addition to net sales from HP's personal systems segment, we've used estimates from the International Data Corporation and HP to gauge the company's standing in the printing market. These have been coupled with modest growth assumptions to derive total market size for these three years without factoring in an above-average uptick in 3D printers.

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Discounting HP Inc's future cash flows based on the above estimates yields a fair value of $57/share!

Highly optimistic personal computing market size estimates result in major upside potential for HP

Crunching the numbers show that these modest and outrageous assumptions combined show HP Inc to have a true value of $57/per share. The company closed at $20.79 yesterday as coronavirus led to record drops in indices all around. The $57/share estimate is a whopping 174% above HP's current share price and is naturally bound to incite disbelief (believe us, we've been there too).

To tone things down a bit, let's take three additional CAGR estimates for the personal computing market (estimates for the Printing division remain unchanged). These, along with the respective computations of HP's fair value are shown below:

  • A CAGR of 15% results in a per-share value of $49 (138% upside).
  • A CAGR of 10% results in a per-share value of $46 (121% upside).
  • A CAGR of 5% results in a per-share value of $42 (104% upside)
  • A CAGR of 2% results in a per-share value of $41 (98% upside).

Finally, assuming that HP earns $39 billion, $40 billion and $41 billion respectively in 2020, 2021 and 2022 from personal systems results in total revenue estimates slightly above Wall Street consensus for 2020 and true value of $38/share, in an 83% upside over Friday's closing price.

HP Inc revenue and free cash flow projection trends

Nevertheless, a 174% upside sounds more fiction than fact

Additionally, don't be fooled by the relatively static looking trend for free cash flows in the image above. Both should grow strongly in the future should the personal computing market performs as-per HP's expectations. HP's closest competitor in the area, Dell Technologies is valued at $40/share by the market and heading into 2020, HP's showing positive revenue growth.

For the first quarter of 2020, HP grew revenue in personal systems by 2% year-over-year and shrunk revenue in printing by 7% year-over-year. Operating margins for personal systems and printing stood at 6.7% and 16% respectively, indicating that the company is off to a strong start towards meeting its self-set goals.

Today's estimate peg HP Inc to grow its total revenues by 20%, 22% and 23% for the years 2020, 2021 and 2022 respectively. To understand that the calculations shown above do not rely on past performance, keep in mind that in its fiscal year 2019, HP's total revenue grew by 0.5% and a year back, by 12%.

So naturally, whether these assumptions come to play, only time can tell. But, it just might be the case that there's a lot more to HP than meets the eye.

As always, readers are reminded to conduct their own due dilligence prior to making investment decisions. Wccftech, its staff and its writers do not hold any liability for the consequences of your trading decisions. The writer does not have a stake in HPQ and does not intend to acquire one in the next 72 hours.

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