Coop's Corner

"Today, HP announced first quarter results amid one of most difficult economic downturns that any of us has ever faced. I am proud to say that we continue to execute well in this very challenging environment."

So began Mark Hurd's recent letter to Hewlett-Packard's employees. Hurd, who has earned a justifiable reputation for straight talk, did not mince words. Like every other tech company these days, he explained, HP is feeling the impact of slowing global demand for IT products.

Hewlett Packard CEO Mark Hurd

In black and white, here's what happened in HP's first fiscal quarter:

•  Personal System Group revenue down 19%
•  Imaging and Printing group revenue down 19%.
•  Enterprise Storage and Server revenue down 18%.

That's why Hurd ordered up an across-the-board pay cut, starting with the boss--he's taking a 20 percent salary reduction. Other execs are taking a 10 percent haircut, while the base pay for all other exempt employees will be reduced 5 percent. HP also announced changes to its U.S. 401(k) plan as well as its share ownership plan.

Tough news to deliver, but no CEO has yet been able to repeal the business cycle. The one upbeat tale to tell was in the services group, which accounted for more operating profit than any other segment of HP's business. In his note to employees, Hurd even likened HP to two different companies. Hyperbole? To be sure, but it's not that much of a stretch, really. There's a lot of experimentation going on in the IT world as companies struggle with how to make do with less. One increasingly pronounced trend: more IT departments are shifting their computing functions to the cloud. That means money in the bank for the services that can speed the transition.

Good enough. But if HP's going to weather this "econo-lypse," then services will have to grow even faster--and that's going to test even Hurd's formidable managerial talents.

After Carly Fiorina flamed out as CEO, Hurd stepped in and effectively refocused a company that was foundering. The timing of his arrival was propitious as it also coincided with a global IT boom. With the Dow heading for new records seemingly each month, what did it matter that HP still relied on a low-margin, commodity hardware business?

That seems like an eternity ago. The good times are over for now and the latest IDC report does not offer encouragement about near-term prospects for companies in the hardware business. Of course, Hurd still can count on services, but that's where HP squares off against IBM, which competes with a much deeper (and larger) bench. (Also, it appears that Big Blue is not feeling the same pain as HP. In an 8K filing on Thursday, the company confirmed its guidance for the year.)

Both HP and IBM have their strengths in services, but as Roger Kay writes, "for too long observers have been treating them like peas in a pod when, in fact, in many ways they are night and day."

Ready to rumble?

Under Lou Gerstner and now Sam Palmisano, IBM moved away from commodity businesses like personal computers and recast itself as a heavy-duty supplier of myriad services to IT customers. In its conversations with prospective customers, IBM never fails to draw the (invidious) comparison with HP, which it depicts as the relative newbie.

OK, all's fair in love, war, and marketing, but there's more than a grain of truth in a PR pitch. Charles King, of Pund-IT Inc., who writes an insightful newsletter on IT trends, puts a magnifying glass on the recent earnings reports turned in by IBM and HP. And he finds that the usual apples-to-apples comparisons between the two companies' services businesses is a flawed one.

There was a point a decade or so ago when side-by-side comparisons of the pair was reasonable. In the 1990s, system vendors including IBM and HP pursued "desktop to datacenter" strategies that included everything from PCs and workstations to enterprise-class servers and storage products. But since 2000, system vendors including IBM and HP have pursued highly individualistic paths that diverged significantly from that tradition.

By the numbers, IBM has become a company focused on the computing needs of businesses of every size, with the majority of revenues coming from enterprise services engagements bolstered by deep software and hardware portfolios. By contrast, the majority of HP's revenues come, as they have for years, from highly commoditized printer, PC and notebook products.

That was a prime reason behind HP's acquisition of EDS, which King correctly notes now accounts for a big part of HP's profits.The challenge is that "the size of HP's software revenues (less than 1/7 of IBM's) punctuates the stark differences existing between the pair."

Hurd obviously doesn't need me or any other outsider to remind him how his company's services arm stacks up against the competition. He knows his company has got to step up its game.

But in the absence of a U-shaped economic recovery--and few economists predict that--the pressure is on to give IBM a run for the money (literally) in an area where profit margins are still great. If Hurd is the superstar executive that his press clippings suggest, he'll do whatever is necessary to make sure HP gets its fair share. At this point, he doesn't have much choice.

What with a deepening recession and concern about the health of financial system, the best-case expectations for technology spending ranged between the bleak and the desperate.

So what do we get? A counter-intuitive start to the earnings season.

(Credit: IBM)

The sub-text to IBM's post-earnings conference call on Monday easily could have been: "We're in a recession and ain't life grand?" (We'll have to wait until next month for Hewlett Packard to report its December quarter, but barring a shocker, HP may sing a similar tune.)

Not because these are salad days for the hardware businesses-just the opposite. That's why it's so interesting. In fact, the tech spending slowdown is hurting demand for computers and servers. IBM's computer hardware revenue (the Systems and Technology business) felt the pain as much as anyone, declining by 20 percent in the fourth quarter of last year.

But consider this: IBM's two global services branches notched a record pre-tax profit with a 14.5 percent margin, up four points from the prior year while the company's software revenue grew 3 percent. So what if IBM's sales team floundered in the quarter. Big Blue's higher margin mix compensated for any decline as gross profits rose to 47.9 percent from 44.9 percent.

Sam Palmisano, who has capably run the company since 2003, is winning plaudits from investors nervous about where things may be heading. But the major thanks goes to Palmisano's predecessor. Don't forget it was Lou Gerstner, who steered IBM into the very high-margin businesses that are now acting as bulwarks against the recession.

IBM had lost millions selling personal computers and PC operating systems. But between 1993 and 2002, Gerstner reshaped the company. He pointed IBM in a different direction, directing the company to invest billions building up its services and high-end software offerings.

By late 2004, the CEO baton had been passed to Palmisano, who was in a position to sell the PC business to Lenovo. Gerstner's emphasis on high-margin businesses was a shrewd choice that looks even better in light of subsequent history. These days the PC business is imploding. The lousy numbers recently turned in by bellwethers Intel and Seagate, only hint at how grim it has become in PC land.

Watching Mark Hurd operate at HP, I'm reminded a lot of Gerstner. NCR's former No.1 has a similar sensibility and he understands that commodity companies don't have a bright future. Paying nearly $14 billion last year to buy Electronic Data Systems was his master stroke. But it was part of the same strategy that included paying big bucks to buy application management software, Mercury Interactive, as well as Marc Andreessen's a data center automation software maker, Opsware.

The odd man out these days? It might be Michael Dell.

Look on the bright side: If you work in Silicon Valley, you may not have that tough a time finding time to meet up with friends and acquaintances during the holiday season.

In another sign of the slowdown in the technology industry, employees at Hewlett-Packard Co. and Micron have been instructed to take more time off during the holidays.

In HP's case, the company is ordering employees to take an extra three days off around the annual Christmas holiday week.

"Shutting down during a period when many employees traditionally take vacation helps HP achieve operational savings and allows employees to enjoy more time with their families," the company said in a statement.

Meanwhile, the Idaho Statesman is reporting that Micron is asking employees to take up to 12 days of time off in December and January as a cost-cutting measure to help the company. A spokesman for the company was not immediately available for comment.

Earlier this month, Dell asked employees to take off up to five days over the next three months without pay.

Larry Ellison is finally in the hardware business. Maybe the second time's a charm.

Oracle CEO Larry Ellison

(Credit: Dan Farber)

In the late 1990s, Ellison tried to drum up support for a network-based computer. He barnstormed around the country with Sun Microsystems' Scott McNealy and made the case for a thin-client alternative to the Wintel duopoly. They were so convincing that Intel embarked upon a crash course to squeeze down costs before the NC could ever get going. Intel prevailed in that contest and Ellison moved on.

Now he's back on a considerably bigger scale--not to mention on more familiar turf.

Oracle's announcement this afternoon qualifies as big news. So does its burgeoning development relationship with Hewlett-Packard, which may be even bigger news. (HP's Ann Livermore noted that HP and Oracle already share about 150,000 joint customers worldwide. If the companies don't blow what looks to be a big opportunity, that number can only grow.)

Oracle's got a lot more riding on its "data warehouse appliance" (as Mark Hurd described the HP Oracle Database Machine) than in the days when the network computer was Ellison's rallying cry. The first units feature 168 terabytes of disk data and 64 Intel cores. HP, which made the systems according to an Oracle design, will supply hardware support. Customers still have to order the machines from Oracle, which should make Ellison happy about the opportunity for his sales team to to cultivate (and sell) that customer list to their hearts' content.

Forrester's James Kobielus noted that Oracle had demonstrated that it can now scale its DW/DBMS platform to address the petabyte-scale analytics requirements that will soon come into the enterprise mainstream everywhere."

Indeed, Ellison made the case that customers will receive better performance because Oracle has coupled its database software with custom hardware. Dana Gardner, who has a good writeup of the event, points out that in this case, the idea is to bring the "intelligence closer to the data, that is bringing the Exadata Programmable Storage Server appliance into close proximity to the Oracle database servers, and then connecting them through InfiniBand connections."

How these two companies were able to keep this secret for most of the three years it took to complete the project is a source of some chagrin to the Fourth Estate and associated blogger types who follow this stuff. But the announcement is already being hailed as "earth shattering"--and perhaps the hyperbole this time isn't so over the top.

The headline read, "Dell's business priorities drive revenue up 10 percent in fourth quarter." The real story was that profits slumped 6.5 percent because of a bevy of charges.

What it means is that Michael Dell still has a lot of work ahead. Dell has already fired 3,200 employees in the last eight months to get costs down. But the restructuring work isn't over and it will impact future earnings. (In the press release, Dell's PR team put it more delicately, allowing that "the company will continue to incur costs as it realigns its business to improve growth and profitability." (Here's the Reuters wire story.)

Dell CFO: Don Carty

(Credit: Dell)

Donald Carty, the company's vice chairman and chief financial officer, started off the post-earnings conference call today by cautioning that "we clearly have a lot more work to do on cost." If you prefer the glass half-full approach, this was the first time in the last three years that Dell posted double-digit quarterly growth. The company posted strong laptop PC sales and enjoyed overseas growth. True enough but don't pop champagne corks just yet: Dell's top line growth still came in around $200 million shy of Wall Street expectations.

The problem is that Dell's far removed from the days when its manufacturing and distribution system was the envy of the industry. Over at Hewlett-Packard, now the world's largest PC maker, Mark Hurd has proved a master at maintaining a relatively lean cost structure while pushing his sales force to ring up bigger numbers.

The company's no longer a pure play direct seller. There was a time when price and distribution were good enough. But with buying tastes evolving, Dell's been branching out into retailers including Best Buy, Wal-Mart and Staples. That may work out to Dell's advantage but management is going to face a new set of business issues associated with an increasingly hybrid distribution system.

On the conference call, Michael Dell said the company was "managing closely and watching closely "the stocking levels during the transition. But he passed when a questioner asked about the level of channel inventory right now. "We're still learning how to balance it perfectly but pretty pleased with our progress at this stage."

That's a big comedown from the go-go era when Dell was running circles around the competition - and crowing loudly about it. Why have costs gone up so sharply? Dell sought to assuage concerns on the call with a heavy helping of business platitudes. I don't know if he convinced many listeners. Tony Sacconaghi with Sanford Bernstein wasn't buying it. He pointed out that SGA expenses have climbed 46% in the last couple of years. Carty, who disconcertingly sounds like the cartoon character, Foghorn Leghorn, acknowledged that Dell wasn't "as prudent with cost controls" as it ought to have been. That rates as understatement of the day.