HP Q3 revenue grows, but server sales disappoint

It called the performance of its Enterprise Servers and Storage Group 'unacceptable'

Hewlett-Packard Co. reported solid revenue growth for its fiscal third quarter today, boosted by sales in its Personal Systems Group. However, it said that performance in its Enterprise Servers and Storage Group was "unacceptable" and pledged to make immediate management changes.

Revenue in the quarter that ended July 31 rose to $18.89 billion, up 9% from $17.35 billion in the same quarter a year ago, according to preliminary, unaudited figures. Net income came in at $586 million, compared with $297 million in the same quarter a year ago. Pro forma earnings per share, excluding exceptional items, rose to 24 cents from 23 cents in the year-earlier quarter.

Analysts surveyed by Boston-based Thomson Financial/First Call had expected earnings of 31 cents per share on revenue of $19.02 billion.

Earnings per share fell well below estimates, brought down by problems in the company's Enterprise Servers and Storage Group, HP Chairman and CEO Carly Fiorina said in a conference call with analysts and journalists.

Three issues plagued the server and storage group, she said. Migration to a new order and supply chain management system in the U.S. proved more disruptive than expected, aggressive discounting and the switch to a centralized claims system led to channel management problems in Europe, and revenue from storage systems was significantly less than expected.

"Execution issues cost us, and we are therefore making immediate management changes," Fiorina said, although she declined to name those affected. She estimated that the problems affecting the servers and storage group cost HP $400 million in revenue and $275 million in operating profit.

Problems with the migration to a new order-processing system forced the company to fulfill some direct orders through the channel and to ship some orders by air, adding to costs, she said.

HP's Personal Systems Group made a strong showing, with revenue of $5.9 billion, up 19% year over year, driven by increased desktop sales.

"In general, notebook margins are higher than desktop margins, but they are moving closer together over time. We are getting better at surrounding a desktop with other options that drive an increase in average selling price," Fiorina said.

The increase in PC shipments isn't causing a build-up of inventory in the channel. "Our channel position is extremely stable in this business," she said.

On the purchasing side, the company is still maintaining a strategic level of inventory in the Personal Systems Group to guard against problems in component supply, according to Chief Financial Officer Bob Wayman.

HP has deliberately increased inventory in its imaging and printing group in anticipation of the back-to-school season. "The only place we have unintended inventory increase is in enterprise," he said.

Fiorina also discussed performance in other divisions.

Software revenue for the quarter increased 17% year over year to a record $223 million, she said. However, the division reported an operating loss of $45 million as a result of investment in the company's Adaptive Enterprise strategy.

Revenue from services revenue grew 12% year on year, to $3.5 billion. Within that, managed services revenue grew 42%, and consulting and integration revenue grew 6%.

For the fourth quarter, HP predicts its revenue will be $21 billion to $21.5 billion, with pro forma earnings per share in the range 35 cents to 39 cents.

Copyright © 2004 IDG Communications, Inc.

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