Hewlett-Packard's CEO Presents at Sanford Bernstein's Annual Strategic Decisions Conference (Transcript)

Seeking Alpha

Hewlett-Packard Company (HPQ)

Sanford Bernstein's Annual Strategic Decisions Conference Call

May 30, 2013, 02:00 pm ET

Executives

Meg Whitman - President & CEO

Analysts

Toni Sacconaghi - Sanford C. Bernstein & Co.

Presentation

Toni Sacconaghi - Sanford C. Bernstein & Co.

Good afternoon everyone. I am Toni Sacconaghi, Bernstein’s U.S. IT Hardware analyst and I am very excited that HP’s President and Chief Executive Officer, Meg Whitman is joining us today. Meg has been the President and CEO of HP since September 2011, and was a Board member of HP since January of that same year. As you will note up on the screen, HP has its forward-looking statements. I would direct those to you in events of our discussion. Meg has kindly agreed to do a fireside chat during our period. I'll be leading that and would certainly love to take questions from the group. If you do have questions, please feel free to put them on cards in your seats and pass it over to center aisle and those will be right up.

So without further ado Meg, if we can…

Meg Whitman

Yeah.

Toni Sacconaghi - Sanford C. Bernstein & Co.

Punch in.

Meg Whitman

Happy to be here.

Question-and-Answer Session

Toni Sacconaghi - Sanford C. Bernstein & Co.

Welcome and thank you. You've been CEO for a little over a year and a half now, maybe you could share with us what you’ve learned about HP as a CEO; you were on the Board before, so clearly involved with the company, but what you’ve learned in your role as a CEO is that has surprised you and has your view of HP’s strengths and weaknesses changed at all since you’ve become the CEO?

Meg Whitman

I would say obviously now having been the CEO for 18 months, I know a lot more about the company than I did as a Board member and I have been a Board member for about six months before I took over. And I say the strength that I think are well known about HP that I deeply appreciate are, really the following:

First is, at our core, we are an engineering company. That engineering expertise commitment to great products, great software, great services is very much part of the HP DNA; and one of the things we did was unlock that passion for R&D for great products by increasing our R&D budget and focusing people on a smaller number of initiatives.

I would say the second great strength of this company, to the passion for customers and customer support we will do anything for customers, sometimes at great cost. But deep in the DNA of this company is a passion for customers. And I would also say that talent at HP is remarkable and you might have expected a brain-drain over the CEO transitions over the last couple of years and I am sure there are some talented people who left, but I will tell you that is not a major challenge for us in terms of the quality of the workforce, the quality of the engineers, the quality of the sales team.

I think the challenges that we face are clear to me than they were obviously when I started and we are steering a turnaround during some of the most tumultuous times at least my history in IT; until we face these huge tectonic plate shift in terms of IT, how technology is bought, how it's sold, how it's paid for, how end users relate to that technology, how software is sold and serviced, until we have these big industry shift to contend with. We have a macroeconomic environment that isn’t helping us, I don't think we are going to get headwinds anymore – I don’t think we’ll get tailwinds from the macroeconomic environment for the remainder of ‘13 and ’14.

And then lastly, there is a host of HP specific issues that we have to contend with whether it’s our investment in IT, how we will organize, how simple we are or not to do business, the relationship that we have with the channel, there is a lot what I would call executional issues that I didn't have a complete appreciation for when I came on as a CEO. The good news about that is those are doesn't take a brain surgeon to fix those; its basic blocking and tackling, but it does take some time.

Toni Sacconaghi - Sanford C. Bernstein & Co.

Meg, I was wondering if I can follow it up, the joy of doing a fireside chat is like I can ask unlimited follow-up questions which is a terrific thing. You talked a little bit about the turnover and the lack of a brain-drain; do you measure that in terms of either topics that for the workforce as a whole in terms of turnover and I don't know if you can share absolute numbers or relative numbers versus history, but you know that is something a question that I receive a lot, so maybe you could comment on that and I have one other follow up to your opening?

Meg Whitman

Sure. So we look at on the metrics that we follow is undesired turnover, people who leaves at the VP level and above who we wish we haven't and that number has actually stayed remarkably stable since today I took over and as I look back actually over the year and a half or so before that it had been slightly higher, but the turnover I think its greatly over stated by the media and others. We have actually a stable group of executives and so most of people that we have lost are people that we actually asked to go and its inline I don't think that we publicly stated that, but it’s inline with other big companies that I have worked with and its very interesting moral at HP is driven by how well I think the company’s strategy and passion for our business, how well understood that is by our employees. And it’s very interesting someone said to me at the other day when the stock was at $14 a share or something like that, I said listen we are happier today when the stock is at $14 share than it was at $45, because we are safe in what we’re doing together. And we wish the stock was hire and obviously today it is. But this is a group of people that are motivated by missions, more than many companies I have seen.

Toni Sacconaghi - Sanford C. Bernstein & Co.

The other thing that was interesting that you mentioned is you didn’t really expect a macroeconomic tailwind in ‘13 or in ‘14, and I have certainly heard you say ’13, I’m not sure but, I heard you say ‘14 and how purposeful a statement that was; maybe you can talk a little bit about what you think is going on right now in terms of IT spend and then more broadly what do you think is a normalized level of IT spend; there are lots of, there is a lot of speculation that we’re in a uniquely deflationary period that is prolonged and secular. So perhaps you can comment explicitly on your ‘13 and 14 comments and then if we step back more steady state, how do you think around IT spend relative to GDP or versus history?

Meg Whitman

Yeah. I’ll make a couple of comments. I think that the financial crisis of 2008 fundamentally resets not only consumer spending, but also business spending on categories like IT. And if you look at like financial institutions their compliance costs have gone up dramatically and that money has to come from some place. And we see businesses of all sizes fundamentally having reset how much they are willing to spend and I think that is a function of the financial crisis and sort of a confidence around are we really out of the woods yet. On the consumer side, we see that in base, look at the pricing pressure on the personal systems business, there is I think a fundamental reset of what consumers are willing to pay for. So we are not bullish in that regard. If you look at Europe, we find Europe to be a reasonably difficult environment. Some months it gets better and then some months it gets worst, but that is not, I don't think it's going to be a growth story in 2014.

The United States continues to sort of bump along. We don’t see it getting meaningfully better and then China is a bit to some degree like Europe. China, it feels strong and then the growth starts to slow and we often see the government make some changes to stimulate that growth rate and then it slows again and we saw China slows to some degree in the last quarter.

So that’s the way we think about it. In terms of long-term spending, I read your note on long-term GDP growth rates and the relationship between IT spending and GDP growth, I thought it was really well done, but he is impressed, I read his note. And I thought that sort of notion of just 3.8% growth in IT spend seemed about right to me. It varies by industry, healthcare spending more. CPG is spending a little less. Financials services is spending less but I generally agree with the relationship that you cited between GDP growth rate and IT spend.

Toni Sacconaghi - Sanford C. Bernstein & Co.

Meg, you've been very deliberate and purposeful and talking about HP being on a four, five year journey and articulated that fiscal ‘13 was really a fixed and rebuilt year and I think ‘14 would be a year of recovery and expansion. Now, I think one of the other things that you've done. People often ask me about how would you characterize what HP's guidance? And I say, well, look they don’t say a lot, but they are pretty committed to what they say and I think those are words that you've used. And so last year you said $4. You [eclipsed] that the series at 350 and you reiterated that and in fact on a little bit higher on your range. For next year, you had said that HP would grow. And I guess the question is, is that still realistic given the macro environment that we talked about and what pretty tough growth rate in the first two quarters of this year, I think down to 8.5% or so for the company in the first half? So is fiscal -- is growth, topline growth in fiscal ‘14 realistic at this point?

Meg Whitman

Yeah. So I believe the topline growth is still possible in 2014. What we are managing is a set of declining businesses, businesses that I would characterize as supporting deals style of IT and then we are have a number of growth engines that are growing quite fast. But in order for us to grow in 2014, those growth engines need to become bigger than the businesses that are declining. And what I think happen to HP is in the technology business there are very quite predictable life cycles of products.

And in the CEO transition, I think we left some of these products go too long on the downside before we had the next generation of those products. So we needed acorns to be planted before we have to have oak trees and we were late I think as HP implanting those acorns until we are playing catch-up. So I think the real question about 2014 is from a revenue’s perspective is how dramatic is the continued decline in PC growth and what happens in some of our other businesses.

And I will give you a microcosm of this which is our storage business. So we have a traditional storage business that is declining that's Tape and a number of other traditional storage businesses and then we have our growth engine which is three-part and StoreOnce. Our converged storage products is, it's three-part grow at 82% year-over-year. Unfortunately Tape and some of those older businesses are declining quite rapidly. So we are managing that decline in business versus the accelerating business.

And so the long answer and I think a little bit more long with it than I want to be hear is the question is how fast the declining business decline. And what I see now is I think we will be able to grow maybe not in future, not in 2014 but I think we will be able to grow top line growth.

Toni Sacconaghi - Sanford C. Bernstein & Co.

Yeah, I mean I just I think about, I think for this year my forecast is probably minus 7% growth. And if you don't get that macroeconomic tailwind, I just wonder if there really can't enough of the shift in that portfolio for ultimately we have to work. Let's say we get to the end of the year or early in fiscal ‘14 and revenue growth doesn't appear likely, how important is that because on one hand you can say well if the company is still generating improving earnings, but on the other hand you often talk about accountability, we are going do what we say etcetera, etcetera. So how hard and fast is the revenue ambition for next year and if it looks less likely at some point later this year, early next year is there alternative course of plan that you sure the company is?

Meg Whitman

Well, first of all you said it correctly that we are committed to EPS growth, no question about that and we have a very clear view to that given our restructuring, given how much more efficient and effective we have become at running this company. And by the way we are not scrimping on the investments that we need to make to set this company up for the long term, but I feel very, very confident on an EPS growth acceleration for sure.

On the revenue side, listen I mean the way the numbers look to me today, I feel confident that we will have revenue acceleration. If we don't, it will be because for example the PC business continues to decline more dramatically than we are forecasting or anyone else is forecasting. The traditional storage declined accelerates even more aggressively. So I would say listen if we would in striking distance of a bit of growth, I don’ think we change course. If we forecast that we’re going to perhaps decline by another 10% or 15% next year, then I think we have to rethink the strategy.

Toni Sacconaghi - Sanford C. Bernstein & Co.

And what are the degrees of freedom on limitation if you did have to rethink. People have sort of these are questions that I was going to ask you later, but I think they go further. You guys have done a terrific job on cash, on cash and balance sheet improvement so you will actually have a luxury of strong ongoing cash flow with operationally speaking a debt free company going forward.

So to the degrees of freedom on a go forward basis, whether it’s because results are more disappointing or just as an operator who has those degrees to freed some. Is a large acquisition possible once the balance sheet is restored? Is that a degree of freedom that you will use at your discretion? You sort of said you won’t use it until the balance sheet is restored, but once it is. Is that a one that you would use? And you’ve also talked about this company is better kept intact than in its parts. And how sacrosanct is that in the near to medium term as well?

Meg Whitman

Yeah. So we will be in a happy position of having now since choice is to make around capital allocation. As most of you know our capital allocation strategy was offset dilution through share buyback, increase our dividend slightly and then pay down debt. And a lot of you had questions about that, I mean I remember when I met with many of you and you have asked me that question, was that the right strategy? Listen, I feel very good about our operating company net debt position by the end of the year and now we have to decide how much share repurchase, what do we want to do about dividends and do we want to make acquisitions. I would not view making acquisitions as a SOP to the revenue growth problem. That I would not do. I wouldn't make an acquisition just to be able to say that I could grow in 2014. That makes no sense and my view on acquisitions is they will be smaller tuck in acquisitions that fundamentally change our position, perhaps in converged cloud or other areas that we are making big bets in whether that's cloud or security, big data or mobility that would be the kind of thing that we would do but we would never make an acquisition just to say we could grow in 2014.

Toni Sacconaghi - Sanford C. Bernstein & Co.

And on the, keeping the company --

Meg Whitman

Yeah, the keeping together, yeah. So listen, we thought a lot about this and say what you will about my predecessors, they assembled a set of assets here that just happens to be perfect for what I call the new style of IT. So whether it's ArcSight, TippingPoint and Fortify, EDS, while we took a write-down on EDS, largely due to market cap reconciliation earlier in the year when our stock was so low, the actual asset is actually quite good and we've got a great leadership team that is leading a much, more stable and vibrant enterprise services business than I inherited when I got here.

So I think these pieces fit together but I think as you have articulated, Toni, either we will make this group of assets sing together and be a differentiator of HP. In other words, our converged cloud offering is differentiated from every competitor because of the assets that we have but we have to demonstrate that that's the case and I think you've been quite articulate that you know, at least over time, if we don't demonstrate that we are better together, there will obviously be [act of the] shareholders or others who have a different point of view but I am committed to making the some of the parts much -- with the whole much greater than some of the parts which as you know today isn't that probably not the case.

Toni Sacconaghi - Sanford C. Bernstein & Co.

And may -- and I appreciate your candour on that. You have articulated a five-year plan.

Meg Whitman

Yes.

Toni Sacconaghi - Sanford C. Bernstein & Co.

And are there important milestones where you would assess that, I think it's too early after one year to say, oh well the whole is now working together, you know, let's get -- but are there either tangible milestones in terms of achieving a financial target or time milestones, where you say look we've been kicking this can for x years and it's not delivering what I think where those things become more of a question I mean I think for now as you've articulated well. This is, let's stick to the plan and continue to move forward here. But how do you think about that either in terms of what are the milestones post that we should watch for in terms of your beginning to reassess that notion of togetherness versus doing something that might be more radical?

Meg Whitman

Yeah. Sure, so we did lay out a five year turnaround plan and many people said, Meg, boy that seems like a really long time that will be somewhat disappointing to the investment community, maybe it will even be disappointed to employees. And what I had said is I thought it was better to be realistic about the length of time that I thought it would take to get HP humming the way a company like our should hum. This is one of the largest companies in the world it is an American global icon. And it should be running better than it was, when I arrived and that will take some time. And we laid out last year was a diagnosis here, this year's fixed rebuild and next year we believe you'll start to see revenue acceleration.

But we have also got to demonstrate that I'll come back to converge [cloud] that we have a story that is compelling to not only our channel partners but also our end customers that we are better suited to help them on their journey to the cloud then any of our competitors, every major customer is going to try to get from where they are with their existing technologies to where they must be to maintain competitiveness in the industry. I believe that we have the very best set of assets and so we have to actually demonstrate that we are taking share in the journey to the cloud with our customers we are widely recognized for being thought leaders there.

If you think about HP cloud services which is our public cloud that is built on open stack. We've jumped t the next technology, HP is the second largest contributor to open stack that's important milestone in terms of okay how do these pieces add up to more than, okay you can buy private cloud from Hewlett-Packard you can buy managed cloud, services, you can buy our cloud system automation. So we have to demonstrate that across cloud, across security, across big data and frankly across mobility and then each of our businesses needs to perform up to their full potential. And so we've got to demonstrate that to our shareholders otherwise I think there'll be a call for a lot of other actions but I am still confident in that listen HP people understand what they need to do. The customers want us to win, this has been one of the great amazing things to me that customers want Hewlett-Packard to win even if we have disappointed them in the past, they want us to win because the role that we play in industry around innovation around balance of power around pricing competition they want us to win, so we are getting benefit of doubt which is enormous help for our company.

Toni Sacconaghi - Sanford C. Bernstein & Co.

I wanted to talk a little bit, you had talked about some of the cost reduction activity and some of the reinvestments I want to spend a minute on that, so this year, I think the gross cost savings are about $3 billion in total and that's been about $1.20 in EPS on a gross level. Are you guys at the Analyst Day, I think had talked about a reinvestment level of about $0.15 of EPS. I was wondering can you talk about the things that you are reinvesting and is that level dynamic results have been pretty good so far in terms of cash flow generation et cetera. Has there been a change to that level and how do you think about that?

Meg Whitman

Yeah, so those cost savings and we are about half way through our overall restructuring program particularly on the labor side, there's a labor component and a non labor component, the non labor lags the labor component. But we're about half way through where we want to be right on schedule remember we said this was a three year restructuring program. And what we have used that restructuring program to do is first of all invest in the things that we need to set this company up for the future, first and foremost is R&D. And this has been a combination of focusing R&D and actually increasing the amount of dollars that we put against this. And this is something that it's absolutely critical to our future. So whether it's Moonshot or StoreOnce or HP Networking our tablets or whatever our next generation of printers, this is important for us.

I would say the second thing we are investing in is running HP more efficiently and effectively. We have made some pretty big investments in IT. The biggest recipient of that investment was enterprise services, which was really running with very some parts almost nonexistent IT. And when you have a business with a 120,000 people and that is your only asset really in the business, is those people and you don't' know where they are and what their skill-set is and you can't put together a P&L for each and every one of your big 250 accounts, that's a big problem. If you look at HR system, when you have a company with, we started 300,000 people; we're now down to about 275,000, if you don’t know where those people are globally, what the talent level is, it's very hard to run this company. So we're moving to work that off of an old antiquated HP’s HR system. We put our entire sales force, our foreseeable system onto salesforce.com. This for the first time gives us a 360 degree view of customers and partners and it is a modern way to run a sales force. These investments were absolutely critical. We're making a lot of process investment. I think what happened in the past was we had processes and the first step was to take domestic labor and move it offshore. The bad news is we had offices that are now offshore.

So it's a lower cost, but we got to fix many of the business processes. Quote to cash is an example that I use. We were behind our competition in the ability to deliver a quote in a short period of time for a configured order system. We are catching up, in fact this week we will be able to quote the cash in salesforce.com, in front of customers, which is a dream we’ve had for the last 12 months.

So those investments, I believe will actually pay-off to some degree this year but even more so, all that pipe we laid last year and this year, we will really start to see a lot of that productivity, better processes, investments and how we run the company take hold next year and it should show up not only in cost counting, but it should up in revenue. Right, if we’ve got a better sales system and we can understand coverage better, and we’ve got a 360 degree of the customer and our divisions are working together whether we're at a partner or a big customer, that ought to show up in revenue which is why I have confidence that you will see revenue growth next year, but it’s all got to work.

Toni Sacconaghi - Sanford C. Bernstein & Co.

On the cost side, do you think you are done and let me provide the context of (inaudible); I think peak revenue levels of fiscal ‘11 if I use that as peak level, this year I have you down about 13% relative to that peak level and I think headcount reduction has been down about 9%. And so one would just say, revenues down 13%, headcount down 9%, do you need to do more to actually keep the cost current with revenue levels.

So is that an unfair way to look at it and in terms of just looking a change in revenue and change in headcount and should we expect more incremental cost cutting and obviously I would suspect if revenue was on your down type scenario for next year, and didn’t grow, how would we think about what needs to be done on the cost side beyond this major initiative that you have today?

Meg Whitman

Yeah. So I will make a couple of comments there. One is, if you look at our net headcount reduction, what you see is we’ve cut deeper, but then we have added back people into some of the investment areas. So we are focusing the headcount and the people on the areas that we want to invest in, which are those products and services and software that are the future as opposed to the past. And we have been quite disciplined in the allocation of our D-Dollars the allocation of headcount, the allocation of IT spends to really focus on the future.

The second thing I would say is one of the things we set out to do was to get our cost structure inline with our revenue trajectory; after I had been here about three or four months, I foresaw the revenue decline that has actually come to pass and knew that we have to work on getting our cost structure inline and we are doing a good job there, but there is more to do; as I said, we are only half way through this restructuring program.

And then the third thing we have to do at Hewlett-Packard is we’ve got to build productivity, continuous improvement in our cost structure into the DNA; I think one of the challenges that we have had with this multiple CEOs is you would know better than I, how many restructuring has HP done in the last five years, and this is ridiculous and unsustainable, I mean cost reduction needs to be part of the D&A, productivity needs to be part of what you do as a company and it cannot be episodic around restructuring because guess who pays for the restructuring, you all do. So this has to be part of our normal cadence and I think we come a long way through dashboards and scorecards and productivity metrics that I think will set us up to be much better run company.

I think you heard me say at the security analyst meeting that this company is not -- was not a well instrumented company. I thought I would come in with almost like a traders dashboard at my desk saying okay server market share in plans greed, you know storage market share in Asia, whatever it was, there was none of this data in the way that you could absorb it that you could measure people on, there was not a consistent scoreboard of data across business units, there was not a consistent customer loyalty metric.

So we’ve had to do a lot of blocking and tackling in terms of instrumenting this business, therefore obviating the need for future restructuring. And I don't want to go out and blame on this but I will, I just don't think that under my leadership we are going to do another big restructuring. It was necessary because the situation in which we found ourselves, but this is no way to run the company, you can't do this episodically, it has to be part of the D&A

Toni Sacconaghi - Sanford C. Bernstein & Co.

I was wondering if you could comment a little bit on the businesses, I think skeptical investor would say when I look at HP and I look at their core businesses, I am anxious that the end markets for at least three of those won't grow with the four being PC, printers, enterprise and services. So if you could think from a market perspective, I’m not going to force you to make forward-looking statements but if you think about the market perspective over the next three years, realistically what do you think each of those end markets growth process, enterprise, services and printing?

Meg Whitman

Okay. So let’s start with printing which is obviously a core business for Hewlett-Packard. Our view is that the consumer printing business is a negative business for in the low single digit negative for the next five foreseeable future unless we do something that actually grows the category and I go back to my consumer products that we as a category leader in home office and personal printing, we ought to be able to figure out how to grow that business. So whether that is the ease of printing of your mobile device, whether it’s a next generation and breakthrough of photography printed by these businesses, we have not given up on growing the category which is our responsibility as a leader. But absence that, I’d say it’s a low-single digit negative growth.

On the enterprise side, we actually see a 1% to 2% growth rate. The enterprise printing is not shrinking as you look around the globe and part of that is because so many enterprises in emerging countries are actually growing their printing even though in the U.S it maybe flat to slightly declining. But our role in printing as the category leader is we ought to be able to gain share in that business, we ought to be able to have new disruptive business models that allow us to gain share and whether that’s ink in the office or our ink subscription or new multifunction printers.

On PCs, if you narrowly define the market as PCs, I think there is a lot of debate about what this looks like. Is it the draconian continued at minus 14% scenario? Is it sort of minus 6% to 7% or does it start to flatten out? My view is it is probably the middle, that it is a declining market, but we think about this business not as the PC business but as the personal systems business and we called it the Personal Systems Group for a long time. I don’t know that we acted on that business definition as aggressively as we should have, but we are moving now aggressively to mobile to multi-OS, multi-architecture strategy as fast as we can get there.

And so the growth in that business will be determined on how well we get in to these new categories of multi-OS, multi-architecture and then is it the draconian PC decline or is it a more modest decline? My personal view is this will be more modest for a couple of reasons. One is there is 140 million laptops out there that have not been upgraded in four years. Eventually something will happen to those devices. Either they will all move to tablets or they will move to a hybrid, which we're betting on heavily which is all laptops, all tablets, all in one, like our NBX 2 and we're obviously going to be in the tablet business as well.

And then there is of course on the commercial side the XP upgrade. Remember XP loses support from Microsoft, I think it's February of next year and a lot of this, like 40% of enterprise and small business customer still run XP. They are going to have figure out what they are going to do. Either they are just not going to pay for maintenance and let us slap or they are going to upgrade. So that’s the frozen comp there.

In terms of services, services should ultimately be a growth business for us and because it is growing in the market and this whole move to the cloud, every app has to be modernized if you are going to move to the cloud, you know datacenter consolidation, a lot of the work that’s [RES Group] does is highly relevant to this new style of IT and we're building practices around cloud and mobility and big data. So I’d say that’s probably industry growth rate is 2% to 3% up, we ought to be able to do better than that over time. Now we still have account runoffs this year and next year but endemically we ought to be able to do better.

Enterprise Group, this should be a growth engine for us. The anchor on that growth rate in the second quarter was of course our performance in industry standard servers. And there was a lot of pricing pressure, there was a whole hosted issues there, but as I said on our call we simply have to do better in industry standard servers. And of course, the big game changer there of course could in fact be (inaudible). Did I cover all of our business?

Toni Sacconaghi - Sanford C. Bernstein & Co.

You did.

Meg Whitman

I think I did.

Toni Sacconaghi - Sanford C. Bernstein & Co.

If you think about going back to that point on last quarter and some of the pricing pressure, I think you talked about profitable growth and sort of staying above the pricing. The consequence this quarter was that you did see cheer in PCs and in servers and profitability was good, came in above expectations etcetera, but you did have below absolute revenue growth. And so more broadly I guess the question is, how do you think about this notion of focusing on profitability because to the degree that it ends up with a significant negative result obviously that put these scaling pressures, right? So, do you think of a minimum level of growth that’s acceptable or minimum level of share or how do you, how far are you willing to go in that profit revenue trade-off and what's the framework by which you think through that?

Meg Whitman

So I think about this is the power of and. We have to hold our gain share and as a result that means we’re going to have to win more deals than we did this time, but in order to hold profitability, we have got to adjust our cost structure. And so the and is we have got to win deal and we have to go for profitability which means we have to adjust our cost structure. And there is number of elements to the cost structure and I will industry standards server as an example.

So we have to make sure that we are segmenting the market very precisely and we are designing the product specifically for a market segment. And what has happened and I think it’s because we are such a fantastic engineering company, there is a bit of a legacy at HP if we build it, they will copy. That is not the world in which we live today; you have to have a very precise market segmentation designed to a price point with the set of features that that market segment is willing to pay for.

And my view is that the low end is growing very rapidly, whether it’s low end PCs in Brazil or 1P servers here in United States and we have got to not over engineer our products, but have the best quality and the best features for a given price. So we have some work to do around the product design which drives of course cost. We have to be very thoughtful about SKUs. We have talked about this before. There has been a growth before I came to HELP in the number of SKUs and the number of platforms which we designed. This is a huge driver of cost. Think about the parts that you have to inventory. Think about the inventory of SKUs that have to be at the right place at the right time for the right customer. Think about the inventory obsolescence that that huge number of platforms creates.

So we are continuing to work on our platforms and SKUs. We are working very hard on our market segmentation and designing product for specific market segmentation and then we are working on our supply chain which I think is among the best in the world, but as this new style of IT move to more mass customization, we’ve got to be more agile and more nimble in our supply chain.

And remember we produce I think it’s literally like a 100 PCs a second, the scale at which we operate here is so enormous that we use to rack them high, stack them high and watch them fly, that is still very much a part of our business, but there's also a mass customization that demands an agility in the supply chain that we are working hard on. And if we do those things then we ought to be able to gain or hold share at profitability levels, but we can't do that if we don't adjust how we do business.

Toni Sacconaghi - Sanford C. Bernstein & Co.

We have about 7 minutes left. So you've been very succinct and I appreciate that and I'm going to actually

Meg Whitman

I'll be even more succinct.

Toni Sacconaghi - Sanford C. Bernstein & Co.

I'm going to actually see if we can enter the lightning round and which on CNBC as many questions as possible in 5 minutes.

Meg Whitman

Okay.

Toni Sacconaghi - Sanford C. Bernstein & Co.

So that would be great. First one I just wanted to revisit that the notion of future capital allocation. So let me run the scenario by you, cash flow this year supposed to be about $7.5 billion in free cash flow, let's assume that's a steady state rate, ultimately you'd like to grow let's assume 7.5%. There are probably four of the companies that I cover that are returning 50% or more of their free cash flow to shareholders, that would be $3.75 billion per year, I think you yourself, I think you said earlier today that you don't -- you view more tuck-in acquisitions as kind of being a priority. Is that 50% return on free cash flow once the balance sheet restored something that is plausible, have you given much thought to a profile for a return of cash to shareholders on a steady state basis after this year?

Meg Whitman

So, what I will tell you is this is very much on our radar screen and now that we are in finally a net operating company, net debt position of zero, we now have the luxury to really focus on this. And we think about this on a return based investing. And you'll all be very happy to know that Ralph Whitworth from Relational is on our Board who is driving hard as I think we all should on returns based capital allocation. So we can't do better than what our cost of capital is and we should return it to you and we don't have a lot of ego about this. Our view is listen what is in the best interest of shareholders from a returns based philosophy.

Toni Sacconaghi - Sanford C. Bernstein & Co.

But other than acquisitions, which obviously could go through that, HP is generally not a large capital intensive company. There's two -- clearly some investments that for cloud infrastructure that you've made but is that ultimately the choice then or do you foresee other forms of capital uses going forward or is it really acquisitions versus returns to shareholders?

Meg Whitman

I think it's really acquisition versus return to shareholders. This is just surprisingly not capital intensive business. The most capital intensive business that we have is HP Financial Services, which is a leasing company. And then next is enterprise services if and only if when we do an IT outsourcing deal, we actually take on the assets of that customer, which we are doing less and less because that IT outsourcing business is changing.

So you shouldn't see a material change to our CapEx and one of the things -- one of the reasons that our cash flow is as strong as it is, I have scrutinized CapEx much more rigorously than we had before. Interestingly enough, HP had been run largely as the return on sales company. That the focus on return on invested capital on cash flow had not been what you would expect from a company like HP. And so you can see the results of the focus on that in our most recent cash flow. Everyone in the company understands it. We have incentive plans in place and we are scrutinizing CapEx as much as we have scrutinized OpEx.

Toni Sacconaghi - Sanford C. Bernstein & Co.

I have a question from the floor that

Meg Whitman

Yeah.

Toni Sacconaghi - Sanford C. Bernstein & Co.

You know that followed nicely to that, you know, what's your working relationship with Ralph Whitworth you talked about the focus on return on capital. Any other comments about what he's bringing to the Board and?

Meg Whitman

So, he has been I think a significant positive force on Hewlett-Packard's Board, and I have a very good relationship with him, I respect the fact that he has done a number of what he calls his projects that are HP like type situations and he has learnt a lot from those and he is sharing that with us. So I am really quite delighted with Ralph's participation and what he has brought to the board. He's been a positive force for sure.

Toni Sacconaghi - Sanford C. Bernstein & Co.

Well the rapid growth of cloud infrastructure services such as AWS, Google compute engine, Microsoft is doing another -- it's pretty significant headwinds to the server business going forward?

Meg Whitman

So I think this is a very good question and one we think about a lot. I do think that there will be some deflationary pressure on infrastructure sold in the old style and I'll give you one example, which you may have heard me talk about before. When I was a CEO of Ebay, we had no choice but to build our own data centers with EMC, with CISCO with an infrastructure that we had to build for peak capacity, which was a holiday season. So we built the Church for Easter Sunday.

Today we wouldn't build Church for Easter Sunday, which is great for our customers and I think does put some pressure on the infrastructure in the old style. So that's why we're investing in HP cloud services, that's why we're investing in Moonshot, because my view is we have to leap to the next technology better to do it ourselves and have someone else do it to us. And until I think actually as the infrastructure spend perhaps becomes more efficient for everyone from big companies to small companies then there may be the opportunity that those companies spend more money on other things.

Security, big data, mobility, solutions that help them grow their business. So my view is IT spend maybe as you predicted but the mix of that IT spend may be quite different in terms of infrastructure as a service, platform as a service, certainly software as a service. Because one of the interesting things about the industry is everything is changing how technology is consumed, how it's thought, how it's paid for which I think opens the huge opportunity for HP. And this is a good thing for us if nothing was changing, I'd be a lot less optimistic about our ability to lead this resurgence back to where HP should be in the industry.

Toni Sacconaghi - Sanford C. Bernstein & Co.

How important is changing the business mix of services from outsourcing to consulting to achieving the long-term margin goals for this unit can these margins goals be achieved by simply being more selective about the outsourcing deals you take on i.e. [shrinking] the --

Meg Whitman

Yes. So, we -- I think we can hit those margin numbers without changing the mix of the business, this is the business that in all candor was not very well run, I mean if you -- we talked about the IT investments that were necessary we now have a leadership team that is running this business very well and even now it is shrinking because of number of key account run off that was eased off at the end of 2014 and then my view is we've begun to grow that business, but we can do so much better there is significant profit increase in that business exactly with the mix that we have and then to the extent that we can build these strategic enterprise services that's where you would actually see some upside to that margin, but we've got very the good news about the services business is when run well it's a very predictable business.

And then you have to hit your in quarter in your book to build ratio but lot of your revenue is already in place for next year, so we have a lot more visibility interestingly into that business than almost any of our others and I have to say I think our management team, the change we made earlier this year they've done a great job.

Toni Sacconaghi - Sanford C. Bernstein & Co.

Last question, Meg, maybe you can give the investment case for HP what part of its most underappreciated or misunderstood by investors?

Meg Whitman

So, the way I think about his is we have a set of assets as I said before put together by my predecessors, that are perfectly suited for the new style of IT. And what we need to do is make the investment in these growth businesses that meet our customers' needs, whether they be our partners our end user customers.

And we have scale and distribution that can be utilized to our advantage. And so that is the investment piece as that's -- we are best positioned to provide solutions for the new style of IT to businesses and enterprises of all sizes, with enough anchor in the consumer side of -- of the device business so that we can provide our enterprise customers devices that they really want. And that we're really well position to take advantage of these tectonic plate shifts and restore HP to the rightful position in the marketplace.

And if we do all that, the multiples should go up, because I think we're still trading at a multiple that exhibits concern about the long-term growth rate of the company, concerned about whether we will actually deliver, what we say we'd do, I think [run up] in the stock price to some degree has been because actually you all are gaining some confidence that we're actually going to be able to deliver and that we're going to do what we say we're going to do.

And if we continue to execute assuming we don't get any earnings per share increase which of course we will, there is a pretty good thesis there that it's a multiple expanse and we trade water that's a plus it's a multiple expands and we deliver the earnings per share that we hope we will then that's a good stock price story.

Toni Sacconaghi - Sanford C. Bernstein & Co.

Okay Ms. Whitman. Thank you very much for your time, we appreciate it.

Meg Whitman

Thank you, I appreciate it.

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