I don't hate HP Inc. (HPQ) . I don't hate Xerox (XRX) . I do hate them together.
Hewlett Packard rejecting Xerox's latest $24 per share bid for the company is the correct move. I think of it this way, taking one dinosaur and putting it with another dinosaur didn't perpetuate life, evolution did. Neither of these companies appears to be doing much in the way of evolution on their own, so why would they succeed in such a plan together.
Take it one step further. Xerox is a $7.65 billion company focused on paying down a large amount of debt with its operating cash flow, then shipping the majority of the remaining cash flow out to investors either via dividend or buyback. That doesn't sound much like evolution, but more placating shareholders because the company doesn't know where to go.
So, what does it do? It tosses a Hail Mary $35 billion takeover offer for HPQ.
For a company with a debt to equity ratio of 1.0 and sitting at 20% the size of the takeover target, this seems like a goldfish trying to swallow the meals of a Great White.
Both companies produced solid results in their most recent quarter. Revenues basically in-line and EPS beat expectations by roughly 20%. The similarities were impressive. Both are producing free cash flow with similar yields as they payout free cash flow to shareholders. Xerox is also using operational cash flow to pay down a large amount of debt. Xerox did project upside for its FY2020 bottom line. HPQ did as well, but we already saw that upside in the Q1 recent results, so the next three quarters should net out in-line with expectations.
By tying up with Xerox, HPQ shareholders would get more of the same, but take on a partner that may have a consistent bottom line, but a falling top line. Additionally, Xerox's bid includes much more cash than the $1 billion they have on the books even after netting out HPQ's $4.5 billion in cash.
What boggles my mind is DocuSign (DOCU) sitting out there at $15 billion that could work well with either of these companies and their strong free cash flow. That number was closer to $11 billion when Xerox began this nonsense. They might have been able to snag DocuSign for $15 billion then. Instead, DocuSign continues to make its own small acquisitions as it moves into profitability while growing at 40%, growth Xerox could sorely use. With DocuSign's revenue approaching $1 billion, it would be enough to move the needle at Xerox, a company seeing its annual revenue dipping under $10 billion. In fact, it would move the revenue growth more than an acquisition of HPQ in terms of basis points.
HPQ would bring Xerox much more of the same. It would buy the company survival for the foreseeable future, but it would change the course of the asteroid heading towards these dinosaurs. HPQ will likely survive, but an investor will die from boredom while Xerox eventually gets snapped up for 1x or 2x earnings. Meanwhile, DocuSign will continue to pave the path of evolution. I don't think it's too late for either XRX or HPQ to make a move, but it will be soon.
