Warren Buffett's Berkshire Hathaway took a multibillion-dollar stake in PC and printing giant HP Inc. (HPQ -0.45%) in early 2022. The company had been riding high during the pandemic as strong demand for PCs propped up its revenue and profit, and the stock appeared inexpensive, based on that elevated profit.
Soon after Berkshire bought into HP stock, demand for PCs cratered. A small decline in shipments in the first half of 2022 gave way to monstrous declines later in the year and into 2023. After two years of contraction, the PC market is expected to finally return to growth in the fourth quarter.
Berkshire began selling its stake in HP in September and continued selling in October. Those sales, however, were modest relative to the size of the stake.
Based on Berkshire's latest filing with the SEC, it's now clear the company is likely on its way to exiting its HP stake entirely. As of the end of November, Berkshire had slashed its HP holdings by about 50%, compared to the end of September. The company now owns 51.5 million shares.
Two tough businesses
While HP stock looked cheap last year, the reality is that the company operates two businesses that aren't very attractive.
The PC business is highly competitive. There's money to be made in the niches, like gaming PCs and high-end workstations, but there's little differentiation between vendors at mainstream price points. An $800 laptop from HP is going to look very similar to an $800 laptop from Dell or Lenovo.
PCs and related products accounted for about two-thirds of HP's revenue in fiscal 2023, which ended on Oct. 31. Total revenue plunged 14.6% year over year, while revenue in the personal systems segments declined at a faster 18.9% rate.
HP managed a segment operating margin of 6%, down slightly from the previous year. That's historically high for HP's PC business.
The printing business is more lucrative, thanks to high-margin sales of supplies, but it's been stuck in a long revenue decline. Printing revenue was down 4.6% in fiscal 2023, while segment operating margin came in at 18.9%. The company pointed to the shift to hybrid work, with fewer people in the office, as one driver behind lower printing volumes.
Before the pandemic, global PC shipments were also stuck in a long, slow decline that began about a decade prior. While demand for PCs could grow in the long run, that growth will likely be slow after the dust settles from the post-pandemic plunge in sales. For HP, it will be a battle to keep its margins up as it faces intense competition from the rest of the industry.
Printing generates the bulk of HP's operating profit, but it's just not a growth business. While estimates vary, Smithers expects global print equipment sales to decline at a 0.5% compound annual rate through 2028. This decline will put pressure on sales of HP's high-margin printing supplies.
Looks can be deceiving
HP stock still looks cheap. The company guided for adjusted earnings per share between $3.25 and $3.65 in fiscal 2024, along with free cash flow between $3.1 billion and $3.6 billion. The stock trades for less than 10x both metrics.
But how does HP grow profit and free cash flow in the long run? There's no real growth story, as far as I can tell. HP's task is to try to maintain its margins in two difficult businesses.
To be fair, it's doing a decent job of that so far. But will HP be producing meaningfully higher profits 10 years from now than it's producing today? I don't see a reason to believe that.
Whatever faith Berkshire and Buffett had in HP last year seems to have evaporated. Don't be surprised if Berkshire fully exits HP in the quarters ahead.
