Analyzing the Performance of Hewlett-Packard and Compaq - Case Study Example

INTRODUCTION When Hewlett-Packard made a history on the 3rd of May year 2002 by acquiring Compaq, which is considered as one of the largest tech mergers in history books, many questioned the aforementioned merger. After eight months in the works, including a three-day trial in Delaware, with several consultations, HP-Compaq (HPQ) came into picture with the transaction "all-share merger" (www.economist.com). A number of scribes and critics, including the writer of this paper became interested to tackle this matter up to present. It is an established fact that the merger was made to increase the market share of these two companies around the globe. After the merging of these IT companies, the former dubbed as "Big" companies now becomes a Super company. In line with this merger, many have stated that this endeavor is both beneficial to the company. Upon analyzing the performance of Hewlett-Packard and Compaq as separate entities, these two are making waves for their markets specifically those of IT in nature. The merging of the company created a US$ 19 Billion value of the company, which signaled a big boom in the financial markets with high hopes and expectations regarding the company's operation formed by two IT giants. The company's future undertakings made me more interested in this study. The website www.news.com, also cited that this company would dictate a whopping 81% share in the US PC Market. One question was still unsettled, " will this merger eliminate all doubts and speculations during the negotiations of these giants to merge" SECTOR'S CHARACTERISTICS Making profit out of the production if we are to deal with the IT industry is not the main goal of it nor it would justify the productivity of the company. In this regard, the threat of extinction among the big names in the IT industry is inevitable. The said companies (HP and Compaq) are making profit in this field, however, to compensate the needs of these companies and for them to be stable, they must increase their production above the projected number of these companies in order to compensate the demands and high rising cost of maintaining an IT company. To add to that, competitors like DELL, IBM, Toshiba, Sony and Sun Microsystems are some of the many competitors who divides the market of HP and Compaq. These premises made HP and Compaq decide to join forces in order to dominate the IT world. There are numerous mergers in the IT industry, which these mergers were intended to dominate the Market, wherein the common thinking during that time is " the survival of the fittest." Below is the timetable of the merger of these two companies. Table A Due to rising competition among different It companies, merger seems to be only option left fro the market of the company to expand and survive. REASONS FOR THE MERGER: Dealing with IT market is a great task to deal with. Innovations and related strategies is an important component to fare with other activities that are dominated by some firms. To further analyze the problem, it is essential to know different components concerning this. There are main reasons on why merger took place regarding the merger of the said companies. 1) Servers- Perhaps this is the main reason on why competitions in the IT industry is a though thing to deal with. Market leaders in this sector are the HP Alpha 9000 series servers with UNIX playing a dominant role as well. Other noteworthy firms in this sector are IBM and Dell but they are far behind from HP. Compaq is not a factor in this sector. 2) The rise of digital gadgets- Printers, Scanners and Digital cameras is indeed dominating the world of technology. In this regard, innovations concerning these gadgets are fast rising and these challenges are among the main reason of being obsolete from these things compared with the products and services offered by these two companies. 3) IT Services- The importance of this kind of service play a vital role not only in the World of technology, but the business world who needs it badly which is their primary market. 4) Palm tops and portable gadgets- In the fast pace of life today, mobility is a big issue. Perhaps this is also a thing to be prioritized by the IT industry if they want to be at par with the competing companies. The major players include IBM, Toshiba and Sony; each has their own exclusive range of products. Recently Sony's 'VAIO' has taken over from IBM's 'ThinkPad' as the market leader, but Toshiba's 'Satellite' series is not far behind from these two and has indeed made a significant place on the market shelves. There are also things that add to the feature of these gadgets that would derive and catch the attention of the costumers. -These arguments are the reasons on why HP and Compaq see the necessity of merging with each other. those involved in services, servers, software and storage'. (http://news.com.com/2100-1001-272645.html). The merger could provide the combined company with the lucrative opportunities required to achieve this as they both complement each other with their products and services. This company sees that the merger of HP and Compaq is the only way to fare with the place of IBM in the IT world. To add to that, the said merger would open more doors for these two separate entities for more market opportunities. DISCUSSION OF ACQUIRER AND TARGER COMPANY Prior to the merging of these two companies, key personnel in the top brass pf the companies have shown their intentions of being one even before the bid. Focusing on the products offered after the merger is perhaps the important thing to remember. To further understand the argument, I have prepared a Boston Matrix to further know the scope and product portfolio of HPQ (table 2) The table gives us enough overview and it is evident that Compaq has its specialties in personal computers (PC), and handheld computers. On the other side of the coin, HP has something to do with the peripheral aspects such as printers, scanners, servers, digital cameras, and other IT-related services. With the merging of these two companies focusing on different aspects of IT is indeed a big bang as these companies complement with each other and capturing almost all of the market in the said field. Furthermore, the merging completes the services and features that an IT company could offer to its consumers. The detailed grounds and reasons on why these two companies have come to a decision to merge and become one: 1) Operational Synergy: The combined knowledge and control of the two companies is an important factor for the operation's success of the company. Significant advances in R&D can be gained. The merger would further lower the cost of operation considering the fact that manpower are concise thus avoiding redundancy of positions and duties among its members. 2) Horizontal Integration- The merging would alarm the other competitors as it would create an impact considering the fact that two big names in the It industry will merge as one to challenge the IT market. The market share and market power of the combined firm should also increase. It was planned that some of the original product lines would be retained due to their brand image. Examples could be the HP 'Pavilion' desktop PCs and the Compaq 'Presario' 3) Consolidation of positions- the consolidation of positions would allow more creativity among its manpower and the thinking that HP was already an integral part of all the segments to a certain extent in the ever changing IT industry. 5) Financial Synergy- The combination of the resources of these two companies somewhat help these companies to realize expansion programs, acquire new equipments and ensure the stability of the company's financial status. The management at Compaq had a similar list of benefits that they supposed would result from the merger and hence, acknowledged the bid made by HP. It was evident that from the time the notice was released, the interest of the shareholders was served and in its great interest of the shareholders. In the same way, the merger is beneficial to both companies with the conception of HPQ. The majority of the shareholders did vote in favor of the merger which according to the final tally from Delaware-based IVS Associates was 838,401,376 shares, compared with 793,094,105 shares voted against the proposal. (N:HP-COMPAQIntroHP announces final results of vote count CNET News_com.htm) In the process, HP Director Walter Hewlett accused the management of using its influence to capture votes and ensure its victory (of gathering enough number of votes). However, he lost which forced him to retire from his position. Hp adopted All Share Approach to finance the bid. It was held that Compaq shareholders would get 0.6325 of a new HP share for each Compaq share they had. The market value of the company was calculated by the management through calculating he network of compaq. HP's bid amounted to $19 Billion and the other company had a market value of $ 18.744 billion. Governance Hewlett Packard's bid to acquire Compaq was unanimously voted for approval by The Federal Trade Commission, and to add to that, no conditions wereaised upon. Analysis by Mozelle W. Thompson, FTC Commissioner, suggested that the competition in the market arena would be lessened in the 64-bit chip market. The European Commision also added its approval with the legality of $ 19 billion acquisition of the Compaq by Hewlett-Packard. The claim was to stabilize the prices of Hp prices and would prevent HP for possible price increase among its products. A four-month investigation by the commision was made and eventually showed that other competeting companies has no objections over it. Prior to the merger From June 1, 2006 to August 31 2006, share prices were volatile (to the extreme) with the highest being $ 17.71 and the lowest $ 12.69. The figure below shows the share price of HP over the same period of time. From the graph it can be deducted that a downward trend was followed by the share prices during this period. The share prices varied from $30.05 to $23.21 during this period. The share price of HP closed at $23.21 on the 31st of August. The calculation underneath shows that HPQ underperformed when compared to the performance of S&P 500. Beta coefficient = 1.912 (Assumed to be the same for both companies) Expected price growth of HPQ due to change in S&P is: (1.912)(16.1) = 30.78% Expected price growth of HPQ due to change in S&P Tech is: (1.9120(21.65) = 41.39% The realized price growth of HPQ is: 12.84% However, during the merger of both HP and compaq experienced a drastic fall after the announcement of the bid. A day after the announcement of the bid (September 4) the shares of Hewlett Packard experienced a downfall by 19 % while Compaq shares had 10 % deficit on its shares solely on the basis that purchase would decline the profit growth of HP. The main argument here is that this situation seem to violate empirical evidence and academic theories of takeovers, which states that, share prices of Target Company's increase after the announcement of the bid. At Present The 3rd of May 2002 marked the day when HPQ shares floated don the NYSe. The figure below shows that the price of HPQ on the NYSE from May 2002 up to march 2006 (which is the present year). The share price of the new company opened up at $17.440.The graph in Figure 5 shows that the share price of HPQ had fallen after it started floating on the NYSE, just after two months the share prices fell to $11.660 on the 26th of July 2002. Technically straight after the merger HP-Compaq underperformed, the reason could be that after the merger the technological sector had taken a drastic plunge and HPQ seemed to follow the trend at least in the initial stages of the merger. After hitting it's lowest at $11.450 on the 4th of October 2002 it recovered by the end of the first quarter and the share prices recovered to their original value of around $17 on the 15th of November 2002. Afterwhich the price started to increase and reached $20.850 by the first month of 2003. $15.30 was the lowest in 2003. From that time, they witnessed a remarkable upward share of prices. Eventually, the share price, as on 3rd March 2006, was $33.260. RATIO ANALYSIS BEFORE MERGER ITEMS FORMULA HP (2001) COMPAQ (2001) ROE Profits after Tax/ Shareholders funds $640m/$13953m =0.046 -$563/$11117 =-0.051 Return on Net Assets Profits before Interest & Tax/ Net Assets $702m/$(31704-17751)m = 0.05 -$773m/$20975-9858)m = -0.069 Gearing Long term Debt/ Equity $3729m/$13953m = 0.235 $600m/$11117m =0.054 AFTER THE MERGER PERFORMANCE RATIOS 2002 2003 2004 2005 Sales (Millions USD) 56588.00 73061.00 79905.00 86696.00 Percentage Change 20% 22.5% 8.6% 7.8% Cash Dividend/Share 0.32 0.32 0.32 0.32 EPS -.037 0.83 1.15 0.82 Profitability Ratios 2002 2003 2004 2005 Return on Net Assets -2.41 3.97 5.09 3.54 ROE -6.47 7.00 9.26 6.38 Liquidity Ratios 2002 2003 2004 2005 Current Ratio 1.48 1.54 1.50 1.38 Quick Ratio 0.96 1.15 1.08 0.99 Market Ratios 2002 2003 2004 2005 Price/Earnings Ratio - 46.92 27.67 18.23 34.91 Dividend Yield 1.84 1.39 1.53 1.12 Dividend Cover 6.12 6.66 6.87 6.96 Gearing Ratio 2002 2003 2004 2005 Gearing Ratio % 16.64 17.20 12.31 9.12 The assesment of different ratios if we are to consult with the table clearly indicates the success of the merger. Profitability Ratio 2001, prior to the merger, from 0.05, the return on net assets it fell to -2.41. This turn out was expected as the mergerv will obviously increase the net assests of these two companies. It was steadily increased in the year 2004 but in 2005, it declined at a 3.5 rate in 2005. The decline was in line with the return of equity. The operating profit margin also went down from 4.16% to 4.00% during 2001-2002. HP-Compaq did an amazing recovery in 2003 in terms, of profitability as the three ratios RONA, ROE and Profit margin increased enormously. The company was doing well until 2004 but from there it started going down and has yet to make a sufficient recovery. In all, the profitability ratios shows that the merger was not that successful showed by the figures in 2002, in the latter part, the company slightly recovered but not on the point where it was expected. Ratio of Liquidity In 2002, the ratios showed a huge drop in its performance but were compensated in 2003 and from that moment to date, they have been decreasing- this only shows that the liquidity ratio is much better than profitability ratio. Gearing Ratio The ratio suggests that the higher the gearing ratio is, the more debt the company is under. Underperformance had resulted into decrease of prices after the merger. Gearing ratio from 16.64 to 17.20. However share prices started to increase and this started leading to a decrease in the Gearing ratio from 17.20 in 2003 to 9.12 in 2005 and long term debt of the company started to decrease. This meant they could give out more dividends and EPS generally increased till 2004 (1.15) but fell to 0.82 in 2005. Market and Performance ratio The sales of the company is indeed a major determinant in the market side of the company in predicting the future outcome of it but in HPQ's case, the prediction doesn't seem to look good. The price per earnings (PE) ratio is relative its not absolute, which means we have to compare it with our competitors. But before the merger the PE ratio for HP was -46.92 and after the merger it soared upwards to +27.67, this means that the investors in the market are valuing the combined entity of HPQ more than HP alone. Referring to the previous ratio, he HPQ Company is recovering moderately in the liquidity ratio. The management would also take these things seriously. If we are to analyse the premise a major downfall in 2005 was almost expected. Conclusion For four years since the conception of HPQ wherein it involves two big IT companies, Hewlett Packard acquired Compaq with high hopes of expanding the market and services by a new company. But things are not going that well. The fact that a huge amount was released in order to secure the merger, things and major developments in terms of profitability and financial stability is yet to be seen. Though an increase of price was evident on the day of the merger is indeed a different story, the fact seems to be symbolical as differences regarding the company's status is yet to be seen. A perfect example of it is during the year 2005, the share prices hardly changed and even the increasing share doesn't seem to affect the profit capacity of the company. BBC once quoted ""HP and Compaq both have seen sales decline drastically in the current industry downturn" (www.bbc.co.uk)." In all, more strategies in penetrating the IT market should be done. The two companies who formed the HPQ must think that they should go away and refrain from the conventional style and adopt new methods of managing the corporation during the process. Other important facts 1) The takeover of Compaq by Hewlett Packard in is an interesting example of a merger of two similar companies in the sector. 2) The Sector is characterized by the IT market with projected number of shares and the profitability of the merger. 3) The main reason of take-over were the ever-growing amount of production with limited market as well as the rise of other companies which divides the consumers of these companies. 4) The market reaction in the bid seem to be negative as the merger was a complete and concrete example that no matter how established the corporation, drastic changes among them could further derive their market away form them. 6) The target's response to bid was to continue take over the company and pursue its operation as what the top-level managers have decided in the early part of the merger. 7) The key corporate governance issue where Hewlett Packard has decided to take over the managerial tasks of the merger. 8) Take over can be judged successful if the parties concerned experienced a change favourable to the company and unsuccessful if no lesson was learned during the process. BIBLIOGRAPHY BOOKS Arnold, Glen, Corporate Financial Management, Prentice Hall (2002) Bebbington, J, Gray, R & Laughlin, R, Financial Accounting Practice and Principles, 3rd edition, Thomson Learning (2001) WEBSITES www.ft.com www.economist.com www.news.com http://news.com.com/Big+iron+HP+to+buy+Compaq+in+25+billion+deal/2009-1001_3-272520.html http://news.com.com/2100-1001-272645.html N:HP-COMPAQIntroHP announces final results of vote count CNET News_com.htm www.hp.com http://management.silicon.com) www.bbc.co.uk Read More