The Bears are Wrong on These 2 Stocks, But Right on This One
David is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
You have heard about junk bonds before… what about junk stocks? At some point, a company, even a very poorly managed one, moves from being trash to being overly discounted. After falling by the double-digits upon hinting at weak results, Hewlett-Packard (NYSE: HPQ) appears to be in that awkward ambiguous territory. Like Research in Motion (NASDAQ: BBRY), It has valuable intellectual property; but, unlike Research in Motion, it is undervalued. Hewlett-Packard and Dell (NASDAQ: DELL) are both out of favor, but they still have parts that are, at this point, worth more than the sum.
HP & Dell: More Than a Dead Cat Bounce Coming...
Weak demand in PCs, servers, and printers have, admittedly, put HP into a tailspin. But I do not buy the market commentary of tablet growth driving a secular decline in PCs. In my view, investors have over-hyped the trends of tablets, which although cool, are more faddish than revolutionary. I even see strong secular trends in PCs with the addition of touch-sensitive screens.
The first step that management should take to unlock value would be to sell the printing unit, which has been exposed as vulnerable during the macro recession. It is now weighing down the stock and can be used to help HP boost its war chest for expanding into the cloud. The poor idea of scrapping the PC business tarnished the brand in front of shareholders, and management now needs to do just the opposite: emphasize that it is committed to building a coherent economic moat around this core business. The decision to purchase Autonomy came at an expensive price for little synergy, so the M&A strategy hereafter needs to focus on acquiring assets at more attractive multiples.
The main idea is that HP is generating substantial free cash flow that an acquirer could easily purchase the business and use it to pay off the interest expenses pretty quickly. Ditto for Dell…
While Microsoft's decision to build its own tablet should lower Dell's TAM amidst weak demand for PCs, again, I do not see tablets starving Dell's business as a whole. Dell is also offering a tablet but expects to bring in just $1 billion in revenue for the product for 2016.
The good news is that Dell can expect to differentiate itself in Windows 8 as a way to actually expand, not shrink, margins. Towards that end, management has announced it will range x86 and ARM-based Windows 8 tablets. In addition, by taking efforts away from volume-driven but low-end products, the company can commit itself to higher margin segments. Selling consumer brand businesses will also help boost the firm's war chest to expand onto the cloud.
Over 2011, Dell made a series of acquisitions that failed to generate meaningful market commentary. Well, those integrations are just starting to pay dividends. It has transitioned the business into being more oriented around mid-market infrastructure that can be scaled to dilute fixed costs yet more. Going forward, I anticipate takeover activity in enterprise security, which continues to grow in demand from rising data.
No Motion Left in Research in Motion
In several respects, HP and Dell remind me of RIMM. However, the turnaround situation is ultimately much different. Whereas HP and Dell's future relies on communicating the inherent value that still remains in the business, Research in Motion pretty much needs to start, well, almost from scratch. Smartphones have really put a dent into the business momentum and are much more of a dent to BlackBerrys than tablets are to PCs.
In Research in Motion's case, there are a lot of long-term headwinds. While there is tremendous risk in transitioning the operating system, there is also a very competitive environment coming from large producers like Apple's iOS and Google's Android. To be sure, BlackBerry 2.0 OS has plenty of improvements from its predecessor, competing OEMs are developing higher-end products at lower prices. Margins are thus likely to fall and impact the firm's ability to invest in marketing that would otherwise be the source of a revival. I thus strongly encourage investors to hold out and bet on firms, like HP & Dell, that already have free cash flows north of 12% against market cap.
Thus, in total, the bears have reason to be concerned about RIMM. However, their case has since won the market over a little bit too much at HP and Dell. Accordingly, I recommend backing those two as the economy recovers.
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