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Hewlett Packard Enterprise Co Stock Has More Upside Ahead

Though Hewlett Packard Enterprise Co (NYSE:HPE) stock is near a 52-week high, it earned the strong performance in the markets. Its first-quarter results beat expectations and its outlook for the current (second) quarter is even better. Even at current levels, HPE stock is valued at a forward price-earnings ratio of less than 13.

The low valuation is not enough to suggest more upside ahead, but the fundamentally strong business cycle ahead does hint at more gains for shareholders.

HPE grew earnings by 11.6% year over year, helped mostly by the 23% growth in its storage segment, 25% growth in its data center networking segment and 10% growth in its compute segment. The positive momentum in all of its business units suggests HPE will beat, if not exceed, its EPS forecast for the quarter and the year. Management expects earnings in the range of 29-33 cents a share, above the 26-cent consensus estimate. For fiscal-year 2018, it will earn $1.35 to $1.45 a share.

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Growth by Acquisition

Though an acquisition may hurt the share price in the short-run, the company’s need to bolster its software division makes it worthwhile. HP Enterprise ended the quarter with $7.7 billion in cash. Through a combination of a debt raise and cash, HPE may buy a software storage, networking or analytics company to complement its hardware business. Some of its latest offerings could integrate well with a software addition. In December, HPE launched Greenlake, a pay-per-use solution that manages customer workloads. Balancing load is a requirement for companies using Big Data, backup, open database, SAP’s HANA and Edge Computing.

OneSphere, a software management platform for on-premise private clouds, could get extra features through an HPE acquisition. HPE Superdrome Flex, which delivers real-time business insights from company data, or its blockchain-as-a-service solution are both drivers for growth. As a software solution, the profit margin is higher, so investing in R&D or buying a company and integrating the software would drive sales higher.

Hardware Acquisitions Paid Off

HPE’s acquisitions in hardware suppliers has already paid off. The repeated success suggests that management may boost software sales through acquisitions. Its acquisition of Nimble Storage and better performance from 3PAR added positively to HPE’s compute division. There, revenue grew 11% YOY.

Storage Demand Grows

HPE stock investors need only look at hard disk makers to realize how much revenue growth there is in the storage market. Western Digital Corporation (NASDAQ:WDC) traded at above $100 recently and received analyst upgrades that said the stock would move higher. Seagate Technology plc (NASDAQ:STX) also traded near yearly highs and is up nearly 44% in the first three months of the year so far. In the first quarter, HP Enterprise reported double-digit growth in Big Data storage and 16% growth in an all-flash array. DC networking revenue rose 27%, thanks mostly to strong sales execution.

Cash Flow Turns Negative

Bears could call the $412 million in negative cash flow a con, but HPE bought back $742 million in shares and $120 million in dividend payments. The total return to shareholders was $862 million during the quarter. To maximize its shareholder ROI, the company is concentrating its efforts to pay out a dividend and to buy back stock.

Since HP Enterprise forecast free cash flow of around $1 billion, back-weighted for the year, expect buybacks to accelerate later this year. The bias for raising shareholder returns also implies that HPE will take careful considerations in its M&A options. If stocks tumble and valuations fall, HP Enterprise may be in the lucky spot of buying a deeply discounted company at below market value.

Takeaway on HPE Stock

Buying HPE stock now seems ill-timed, yet the growth prospects may exceed the company’s forecast.

If it beats expectations again, HPE stock could trade in the $20’s. That would give investors a return of at least 20%.

As of this writing, Chris Lau did not hold a position in any of the aforementioned securities.

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