4 reasons why buying 11% HP from Warren Buffett is a bad bet
Warren Buffett — ranked the fifth richest man in the world by Forbes with a net worth of more than $125 billion — has had a mixed record when it comes to investing in tech stocks. Apple was a great investment for him – IBM and Oracle not so much.
Buffett stepped into the tech hitter box again – according to the the wall street journal, he is now the proud owner of an 11% stake in PC Maker HP. Should you follow in Buffett’s wake and buy HP stock?
Here are four reasons not to:
- HP products lack universal appeal
- Customers don’t have an addictive need to buy HP products
- HP has no gap
- Buffett lacks superior knowledge of the IT industry
Buffett’s investment in HP
Berkshire Hathaway disclosed ownership of nearly 121 million shares of HP in securities filings on April 6, according to the the wall street journal. Once the market had a chance to digest this news, the value of his investment jumped 14.75%, or $650 million, from around $4.2 billion to $4.85 billion. , according to CNBC.
Buffett – who is now HP’s largest shareholder – is betting on a company with a storied history. In 1939, two Stanford graduates, Dave Hewlett and William Packard, started Hewlett-Packard Co. in a garage in Palo Alto.
In 2015, then-CEO Meg Whitman split the company into two: HP, which sells PCs and other products to consumers and small businesses, and Hewlett Packard Enterprise, which focuses on customers. professionals.
Why did Buffett bet on HP? He gave a clue in his February 2022 letter to shareholders, writing: “Whatever our form of ownership, our goal is to have meaningful investments in companies with both sustainable economic benefits and a top-notch CEO. order. We own stocks based on our expectations of their long-term trading performance, not because we view them as vehicles for timely market movements.
HP performance and outlook
Since HP spun off from HPE in 2015, it has migrated to enterprise markets. It provides “personal computers and other access devices, imaging and printing products, and related technologies, solutions and services to individual consumers, small and medium-sized enterprises (SMEs) and large enterprises, including customers in the government, healthcare and education sectors,” according to CNBC.
HP – whose stock closed at a record high on April 7 – raised its 2022 earnings outlook in late February after reporting strong business computer sales in the first quarter of its fiscal year (which ends in February), but warned that Russia’s invasion of Ukraine would dampen growth in the current quarter, the Journal noted.
HP’s revenue grew modestly, although it exceeded profit and revenue targets. Revenue rose 9% to $17 billion, $500 million above analysts’ expectations. Earnings per share of $1.10 were eight cents above consensus, according to SiliconAngle.
HP offered earnings forecasts for the current quarter and 2022 ahead of Wall Street forecasts. Specifically, he expects EPS to be in a range – the midpoint of which is $1.05 – that is three cents above the consensus. For fiscal 2022, the midpoint of HP’s guidance range is $4.28 — three cents ahead of Street’s guidance, SiliconAngle noted — but a whopping 20% below its 2021 EPS of $5.33.
HP still derives the bulk of its revenue and growth from the sale of desktop and notebook computers, which rose 15% to $12.2 billion, or 72% of its total sales for the year.
HP is optimistic about its performance and outlook. As CEO Enrique Lores said, “Our first quarter performance was particularly strong in our key growth areas which collectively saw double-digit growth, including games, peripherals, workforce solutions artwork, consumer subscriptions, industrial graphics and 3D. Our performance reflects progress against our strategy to build a stronger HP.”
In March, HP acquired Poly, a maker of workplace communication products, for $1.7 billion on the expectation that hybrid work demand will continue. Lores expects the new “hybrid world” where people work and play will likely remain “for the foreseeable future,” according to MarketWatch.
Indeed, if there is any possible attraction for HP’s business, it is in this hybrid future. HP has “aggressive growth targets for Poly based on the belief that its supply chain muscle can eliminate Poly’s growing backlog. And HP is likely considering other potential plays in hardware peripherals, all to increase its exposure to a hybrid workforce splitting its time between home and office,” the Journal noted.
Unfortunately, it seems to me that HP’s high stock price does not predict faster growth ahead. As demand for laptops and desktops has grown rapidly during the pandemic, market analysts expect growth in PC shipments to slow significantly.
IDC expects demand for personal computing devices to slow in 2022. Over the five years to 2026, the research firm forecasts compound annual growth of 3.3%, driven primarily by sales of laptop. Jitesh Ubrani, head of research at IDC Mobility and Consumer Device Trackers, said, “The market has passed the peak of pandemic PC demand,” according to eMarketer.
Will HP meet its aggressive growth targets for the hybrid or will it fail? There’s little basis to know and I don’t know why Buffett is willing to bet over $4 billion that he will.
How Buffett Makes Investment Decisions
Let’s take a closer look at how Buffett makes investment decisions to assess whether HP is a good fit. As I wrote in November 2015, Buffett’s partner Charlie Munger did a good job of summarizing how Buffett thinks about investments.
Munger created a character named Mr. Glotz – inspired by Buffett. According to a 1996 speech by Munger, Mr. Glotz is a hypothetical investor looking for opportunities to turn $2 million into $2 trillion over the next 150 years – at a compound annual growth rate of 10%.
Munger’s speech revealed that he believed Coke to be such a company. Munger suggested Mr. Glotz would choose these companies by listening to the CEO’s speech for 15 minutes.
Between Mr. Glotz and a 1998 interview with Buffett, here are three tests a company must meet to get an investment from Buffett:
- Has it built an indomitable global moat through a strong brand and “universal appeal”?
- Did it harness “powerful elemental forces” that compel consumers to buy in an almost addictive way?
- Could Buffett understand the business?
HP products lack universal appeal
I recognize that people buy HP products. However, HP is not the market leader in desktops and PCs, where it follows Lenovo. More specifically, according to IDCin the last quarter of 2021, the global PC market share of Lenovo was 23.4%, HP (20.1%), Dell (18.6%) and Apple (8.2%).
This tells me that HP is one of many big players in the desktop and PC industry – its appeal isn’t universal.
There is no addictive need for customers to purchase HP products
Unlike Coke or Apple, people don’t need to buy HP products. In general, HP products are not unique.
People can buy a desktop computer or a laptop and when it runs out of steam, they can buy one from any vendor – Dell, Lenovo, HP, Apple and others – and it will work pretty well.
Indeed on the basis of customer satisfaction, HP is doing well but it lags behind Apple and its peers are doing almost as well as HP. How? According to US Customer Satisfaction IndexApple’s 2021 score (82) leads the industry – ahead of HP (80), Acer (79), Samsung (79), Dell (78) and Lenovo (78).
HP has no gap
In my opinion, a company has a gap if it leads its industry and its competitors are unable to erode that lead. Since HP does not enjoy market leadership and there are many rivals with comparable product features, according to ACSI 2021 analysis, I agree with Morningstar calling it “No- moat HP”.
Buffett lacks a superior view of the IT industry
I don’t know what Buffett knows about the computer industry. However, he was famous in the 1990s for refusing to invest in his buddy, Bill Gates’ Microsoft, because he couldn’t predict where the industry would be in a decade.
Nonetheless, Buffett has invested in some of the biggest names in the industry, including IBM, Oracle and Apple. His “long-term position at IBM and a short-term fling with Oracle” did not pan out according to the Journal.
But its bet on Apple – which began in 2016 – “has largely paid off. The iPhone maker’s market value has since increased more than fivefold to just under $3 trillion. Apple is now the biggest Berkshire’s investment in a business it does not control in terms of market value,” the Journal noted.
I admire Buffett’s success with his Apple investment and based on my conversations with students about Apple over the past decade, I am convinced that Apple exemplifies the qualities of universal appeal, dependence and of high flukes that are sorely lacking in HP.
Either Buffett has a better idea of how HP will build a business for hybrid workers with these traits, or there’s another reason he bought up so much of his stock.
As far as I can tell, another thing is that HP shares are cheap based on price and earnings. As the Journal reported, its 8.0x price-to-expected earnings ratio for the next 12 months is “modest relative to the industry.”
Unless HP grows faster than investors expected and raises its forecast, I agree with Morningstar – whose price target is $29 – that the stock is overvalued.