Q&A With HP CEO Meg Whitman and CFO Cathie Lesjak: The Turnaround Is on Schedule

If shareholders were eager for evidence that the turnaround plan at troubled technology giant Hewlett-Packard was still in place, they got it but good from the company today. After rivals like Dell and IBM turned in earnings reports that came up short, owing to the tough state of IT spending, it says a lot about how far HP has come in the last year that it is the one reporting results that handily beat the forecasts of analysts. HP shares rose more than 13 percent to $24.05 in after-hours trading.

But in a short phone interview with AllThingsD, CEO Meg Whitman and CFO Cathie Lesjak reiterated what they said on a conference call with analysts: Progress has been made, but there’s still a lot of work to be done.

AllThingsD: Meg, let’s talk about the state of the competitive environment. We heard some pretty tough results from Dell last week, and you said on the call that HP was choosing to pass on some deals in order to protect profit margins. Tell me a little more about that.

Whitman: For the long term, profitability remains a focus for us because we can’t afford to let our profitability crater the way Dell did. We have to have the ability to invest in the next generation of PCs and servers and software. It was a tough quarter. We walked away from several deals and lost some share. But it felt like we did the right thing in going after the deals that were the right deals for us. There were also some execution issues. We have to make sure we have the right product for the right customers at the right price point. And particularly at the low end, I think we could do a better job there. But overall I’m reasonably pleased that we made the right decisions in the PC business.

Dell was also making a lot of noise about industry standard servers and how it took some share away from HP. Was it a similar dynamic in servers as it was in PCs?

Whitman: Yeah. We saw what happened to Dell’s earnings. They were down 75 percent. If they were a publicly held company that was trading freely in absence of a buyout number, the stock would be down by 50 percent. It would be ridiculous. We are a publicly held company and we have to invest in the long haul. So we had to choose to walk away from some deals in hyperscale and industry standard servers and PCs that didn’t make sense for the company. I feel like we did the right thing, but there’s always something you can learn from these things.

How do you feel about competing against a privately held Dell versus a publicly held Dell? We saw some indication of how it might behave in the marketplace this quarter. Do you think you’re going to have more of this aggressive pricing behavior and so on?

Whitman: I don’t know exactly how their behavior is going to change. But remember, they’re loading a lot of debt onto the company. And remember how LBOs work. The key is to pay off the debt quickly so you can take the company public again and make a lot of money. We’ll see if they remain as aggressive as they have been. But frankly, this is just a competitive business. We have a lot of competition. We have shown that we can win over time whether it’s against Acer or other manufacturers that we beat out. So if it’s Dell or anyone else, we have to have continuous improvement. We have to invest in the right products. We have to streamline our go-to-market strategy, we have to constantly refine our supply chain and we have to be more agile. And that is just part of being in the business.

Lesjak: And we’ve shown that by being No. 1 in the market for industry standard servers for many, many years now, and we’ve been competing against Dell that entire time.

Cathie, there was a lot of talk on the call about reducing HP’s debt. Give me a look ahead as to what changes when that debt comes down to approaching zero, then what happens?

Lesjak: It frees us up to step back and look at what we want to do with the cash we’re generating, and we want to make sure we’re making the right kind of investments. Those investments may be in buying back shares, or capital expenditures, or research and development to get us on track for the future, or to make small M&A deals. And we want to evaluate these all on a returns basis, both in the near term and in the long term. Because you really need to do both. Some decisions will be based on the near term and with some we’ll be willing to wait a long time for the returns because they’ll be worth it. This is actually one of those moments when we’re going through a lot of product transitions, where the new style of IT products are coming in and the older style products are going away. And what we really want to be able to do, instead of having to manage big transitions, we want to get through them more quickly and that means that you have to invest for the short term and long term.

Whitman: I’ve been saying this a lot lately: You have to plant acorns before you have oak trees. And I think with a lot of the CEO transitions, we didn’t plant enough acorns. And now we’re paying that price.

So part of the impression I got from this quarter and last is that you’re able to beat the Street expectations in part because you’re able to manage your cash flow very tactically. You did well with cash flow for the first half of the year and you said on the call that you don’t expect it to remain as strong in the second half. With the macro environment remaining so weak, I come away thinking that your success is really less about products and lines of business and right now more about managing and taking out costs. Is that fair?

Lesjak: I’d sum it all up to operational excellence. You have to do this all the time. I mean, we’re in a competitive industry. Margins are tight and you have to be maniacally focused on managing your costs every minute, and making sure you’ve got the right product in the right place at the right time. I think this has to be part of the DNA of the company. There’s no moment when you exhale and then you get to spend more. This is about being focused all the time and bringing that discipline to the company. Now in the second half we have some extraordinary cash payments to make around taxes and restructuring payments. As well as some cap-ex that we think will be good investments for the future.

Is there any indication that the macro environment is going to improve? We’re seeing the worst environment for PCs pretty much ever, and IT spending generally isn’t looking so good. Do you sense any improvement in either?

Whitman: From a macroeconomic perspective, which is what drives IT spending across small businesses, medium ones and big enterprises, I think the environment remains about the same. I could be wrong here. We don’t see any improvement coming in Europe and we don’t see an improvement in the U.S. So we’re not counting on those as tailwinds or headwinds, but really more of the same. PCs are a little different. PCs are a subset of personal systems, and as you know that business is growing generally with all the tablets and mobile devices. It’s possible the PC growth rate doesn’t decline as much. It may continue or it may flatten. The objective is that when it starts to flatten out, whose is the company with the best products and the company best-positioned to gain share. We want it to be us.

Lesjak: Taking advantage of the fact that tablets are a growing segment, you really look at HP’s position in tablets, and that will improve significantly in the second half of this year. We’ve got the Slate 7 Android consumer tablet and the Elitepad commercial tablet. Those ramp in the second half, so we’ll have some help on the top line. Not so much in the PC business but personal systems.

Project Moonshot launched during the quarter and there’s a sense that there’s a lot of hope riding on that product. When does it start shipping in earnest for revenue? Is that a 2014 story?

Lesjak: It really ramps in the second half of this year but it’s more of a 2014 story. The real material benefit is 2014 and 2015. IDC has done some projections that the Web and cloud services business will grow about 19 percent in 2016. So that works out to about 8-10 million servers between now and then. So that’s the market that Moonshot is going after.

Whitman: You also have to remember that the ramp is slower with these enterprise products than with the consumer products. Big enterprises need to bring them in and do a proof of concept and see what workloads they want to run on them. And then they have to prove it out. Enterprises move more slowly, but when they move, they move big. But the ramp is slower than the the consumer product.

What’s your biggest priority for the rest of the year now, Meg?

Whitman: We continue with our restructuring program. We said it was going to be a three-year program, and we’re about halfway through that timeline. So there’s more work to do there. And to Cathie’s point, it becomes part of the DNA. This is what we do in the normal course of business. We also have to manage the transition between the new products and the older products. We’d like to accelerate the growth of the new products if we can.

And you said on the call, despite all these market headwinds, you think you can grow next year.

Whitman: We do. We continue to believe that growth is possible next year. You’ve got to remember, we’re doing this amid some of the biggest transitions that have hit the IT industry in a generation. The macro environment is not going to help. The delayed runoff in enterprise services helps this year but hurts next year. But we think we can grow. It depends on a lot of different factors. To be clear, we expect EPS growth in 2014 regardless.

What’s your latest thinking on Autonomy? Is that part of the operation where it should be?

Whitman: I think Robert Youngjohns and his team have done a great job of stabilizing Autonomy. We’ve put in some systems that were lacking and we’ve changed our go-to-market. We’ve invested in R&D jobs there. We had 50 openings for research jobs there recently and I suspect that most of them have been filled by now. So I’m pleased with the progress. That team went through a lot, so I have to give them a shout-out. They had some difficult circumstances. And I’m pleased with what they’re doing. I think you’re going to see Autonomy grow in the next few quarters.

You still having fun, Meg?

It is fun. The senior team feels like they’re making a difference. The turnaround is on schedule. Obviously there are lessons learned every quarter, but we feel good about where we are.