While HP Inc. (HPQ) has good reasons to oppose Xerox's (XRX) buyout attempt, HP shareholders have to be pleased with the pressure that Xerox's efforts are placing on HP to grow EPS and explore its strategic options.
In the latest development for a soap opera that started last November, HP's board has rejected Xerox's recently-announced cash/stock tender offer, while asserting the offer "meaningfully undervalues HP and disproportionately benefits Xerox shareholders." Based on Xerox's current trading price, the offer has a value of $23.10 per share, or a little under $5 per share above where HP traded before the first buyout reports arrived four months ago.
In line with past rejections of Xerox's overtures, HP questions Xerox's cost synergy estimates for the deal, and notes that the transaction, which features an $18.40-per-share cash component, would leave the post-merger company with a massive debt load. It also notes Xerox's top-line pressures and its lack of experience running PC and consumer printing businesses.
Also: Like so many other companies that have dealt with hostile takeover attempts over the years, HP's board has signed off on a poison pill provision. Specifically, if Xerox's stake in HP rises above 20%, HP shareholders will be able to buy shares at a 50% discount to their market value.
As I mentioned back in November, a lot of HP's concerns about Xerox's overtures are justified. Amid secular pressures for its core copier and printer businesses, Xerox hasn't seen a year of positive revenue growth since 2011. And while recent cost-cutting efforts are boosting EPS, revenue declines have continued; the 2020 FactSet consensus is for Xerox's revenue to drop another 4.6% to $8.65 billion.
Meanwhile, Xerox's tender offer would leave the post-merger company holding more than $25 billion in net debt (debt minus cash) on its balance sheet. And as the history of the old Hewlett-Packard's messy merger with PC rival Compaq drives home, there is considerable execution/share loss risk for a deal such as Xerox/HP.
But with all that said, HP is facing some pretty significant long-term revenue pressures of its own.
While HP's PC business has gained share in recent years and has benefited recently from a business PC upgrade cycle, it still operates in an industry that's unlikely to see much unit growth over the next few years. And more importantly, HP's printing supplies business, which accounts for a solid majority of its profits, is seeing declining sales as digital document and photo-sharing steadily eat away at demand.
Currently, the consensus is for HP's printing supplies revenue to drop 4.4% in fiscal 2020 (ends in Oct. 2020), following a 4.8% drop in fiscal 2019. And while HP has talked a good game about its growth opportunities in areas such as 3D and industrial graphics printing, it's not a given that these growth areas will offset home, office and media printing pressures.
HP's management, well-aware of such top-line pressures and now under the gun to convince shareholders that supporting Xerox's bid isn't in their interests, unveiled a "Strategic and Financial Value Creation Plan" on Feb. 24. Among other things, the plan aims to boost HP's non-GAAP EPS to a range of $3.25 to $3.65 (up from a fiscal 2019 level of $2.24) with the help of a $15 billion stock buyback program and $1.2 billion worth of "structural cost reductions."
Also: In a Thursday interview with The Financial Times, HP CEO Enrique Lores said that "there are other potential M&A [transactions]" that his company is analyzing, even as it rejects Xerox's offer. And though it isn't clear if he was talking about PCs, printing or both, Lores admitted that industry consolidation "is going to happen."
Regardless of the merits of Xerox's offer (or lack thereof), such announcements and comments have to be music to the ears of HP shareholders as their company deals with some pretty tough secular growth pressures, not to mention short-term pressures caused by the COVID-19 outbreak.