SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark one)
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| X | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
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OF THE SECURITIES EXCHANGE ACT OF 1934.
For the quarterly period ended April 30, 1999
OR
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| | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
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OF THE SECURITIES EXCHANGE ACT OF 1934.
For the transition period from to
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Commission file number: 1-4423
HEWLETT-PACKARD COMPANY
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(Exact name of registrant as specified in its charter)
Delaware 94-1081436
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(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
3000 Hanover Street, Palo Alto, California 94304
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (650) 857-1501
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_______________________________________________________________________________
Former name, former address and former fiscal year, if changed since last
report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period
that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days.
Yes X No
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Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Class Outstanding at April 30, 1999
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Common Stock, $0.01 par value 1.013 billion shares
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
INDEX
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Page No.
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Part I. Financial Information
Item 1. Financial Statements.
Consolidated Condensed Balance Sheet
April 30, 1999 (Unaudited) and October 31, 1998 3
Consolidated Condensed Statement of Earnings
Three and six months ended April 30, 1999
and 1998 (Unaudited) 4
Consolidated Condensed Statement of Cash Flows
Six months ended April 30, 1999 and 1998 (Unaudited) 5
Notes to Consolidated Condensed Financial Statements
(Unaudited) 6-8
Item 2. Management's Discussion and Analysis of Financial 8-20
Condition, Results of Operations and Factors That May
Affect Future Results (Unaudited)
Item 3. Quantitative and Qualitative Disclosures About Market 20
Risk
Part II. Other Information 20
Item 6. Exhibits and Reports on Form 8-K. 20
Signature 21
Exhibit Index 22
Item 1. Financial Statements.
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
CONSOLIDATED CONDENSED BALANCE SHEET
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(Millions except par value and number of shares)
April 30 October 31
1999 1998
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(Unaudited)
Assets
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Current assets:
Cash and cash equivalents $ 4,894 $ 4,046
Short-term investments 101 21
Accounts receivable 5,919 6,232
Financing receivables 1,818 1,520
Inventory 6,310 6,184
Other current assets 3,187 3,581
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Total current assets 22,229 21,584
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Property, plant and equipment (less accumulated
depreciation: April 30, 1999 - $6,622;
October 31, 1998 - $6,212) 5,990 6,358
Long-term investments and other assets 5,800 5,731
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$34,019 $33,673
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Liabilities and Shareholders' Equity
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Current liabilities:
Notes payable and short-term borrowings $ 1,380 $ 1,245
Accounts payable 3,124 3,203
Employee compensation and benefits 1,789 1,768
Taxes on earnings 1,882 2,796
Deferred revenues 1,593 1,453
Other accrued liabilities 3,107 3,008
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Total current liabilities 12,875 13,473
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Long-term debt 1,730 2,063
Other liabilities 1,216 1,218
Shareholders' equity:
Preferred stock, $0.01 par value; 300,000,000
shares authorized; none issued - -
Common stock and capital in excess of $0.01
par value; 4,800,000,000 shares authorized;
1,013,404,000 and 1,015,403,000 shares
issued and outstanding at April 30, 1999
and October 31, 1998, respectively 10 10
Retained earnings 18,188 16,909
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Total shareholders' equity 18,198 16,919
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$34,019 $33,673
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The accompanying notes are an integral part of these consolidated
condensed financial statements.
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENT OF EARNINGS
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(Unaudited)
(Millions except per share amounts)
Three months ended Six months ended
April 30 April 30
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1999 1998 1999 1998
Net revenue:
Products $10,557 $10,338 $20,673 $20,496
Services 1,862 1,702 3,683 3,360
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12,419 12,040 24,356 23,856
Costs and expenses:
Cost of products sold and
services 8,327 8,224 16,311 16,061
Research and development 873 880 1,672 1,683
Selling, general and
administrative 2,110 2,064 4,065 3,936
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11,310 11,168 22,048 21,680
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Earnings from operations 1,109 872 2,308 2,176
Interest income and other, net 193 134 356 224
Interest expense 44 59 91 126
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Earnings before taxes 1,258 947 2,573 2,274
Provision for taxes 340 262 695 660
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Net earnings $ 918 $ 685 $ 1,878 $ 1,614
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Net earnings per share:
Basic $ 0.91 $ 0.66 $ 1.86 $ 1.55
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Diluted $ 0.88 $ 0.65 $ 1.80 $ 1.51
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Cash dividends declared
per share $ -- $ -- $ 0.32 $ 0.28
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Average shares used in
computing basic net
earnings per share 1,010 1,039 1,010 1,039
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Average shares and equivalents
used in computing diluted net
earnings per share 1,051 1,078 1,050 1,077
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The accompanying notes are an integral part of these consolidated condensed
financial statements.
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
CONSOLIDATED CONDENSED STATEMENT OF CASH FLOWS
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(Unaudited)
(Millions)
Six months ended
April 30
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1999 1998
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Cash flows from operating activities:
Net earnings $1,878 $1,614
Adjustments to reconcile net earnings to net
cash provided by operating activities:
Depreciation and amortization 856 869
Deferred taxes on earnings 263 (160)
Change in assets and liabilities:
Accounts and financing receivables (235) (225)
Inventories (127) 72
Accounts payable (79) (118)
Taxes on earnings (894) 278
Other current assets and liabilities 364 382
Other, net 17 137
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Net cash provided by operating activities 2,043 2,849
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Cash flows from investing activities:
Investment in property, plant and equipment (626) (986)
Disposition of property, plant and equipment 253 202
Purchase of short-term investments (713) (1,962)
Maturities of short-term investments 726 2,829
Other, net 75 (7)
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Net cash provided by (used in) investing
activities (285) 76
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Cash flows from financing activities:
Change in notes payable and short-term borrowings 173 (378)
Issuance of long-term debt 227 150
Payment of long-term debt (531) (539)
Issuance of common stock under employee stock plans 330 242
Repurchase of common stock (728) (778)
Dividends (325) (291)
Other, net (56) (16)
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Net cash used in financing activities (910) (1,610)
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Increase in cash and cash equivalents 848 1,315
Cash and cash equivalents at beginning of period 4,046 3,072
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Cash and cash equivalents at end of period $4,894 $4,387
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The accompanying notes are an integral part of these consolidated
condensed financial statements.
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
----------------------------------------------------
(Unaudited)
1. In the opinion of the Company's management, the accompanying
consolidated condensed financial statements contain all adjustments
(which comprise only normal and recurring accruals) necessary to present
fairly the financial position as of April 30, 1999 and October 31, 1998,
the results of operations for the three and six months ended April 30,
1999 and 1998, and the cash flows for the six months ended April 30,
1999 and 1998.
The results of operations for the three and six months ended April 30,
1999 are not necessarily indicative of the results to be expected for
the full year. The information included in this Form 10-Q should be
read in conjunction with Management's Discussion and Analysis and the
consolidated financial statements and notes thereto included in the
Hewlett-Packard Company 1998 Form 10-K.
2. The Company's basic EPS is calculated based on net earnings available to
common shareholders and the weighted-average number of shares
outstanding during the reported period. Diluted EPS includes additional
dilution from potential common stock, such as stock issuable pursuant to
the exercise of stock options outstanding and the conversion of debt.
Three months ended Six months ended
April 30 April 30
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1999 1998 1999 1998
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(in millions except
per share data)
Numerator:
Net earnings $ 918 $ 685 $1,878 $1,614
Adjustment for interest
expense, net of income
tax effect 4 6 11 12
Net earnings, adjusted 922 691 1,889 1,626
Denominator:
Weighted-average shares
outstanding 1,010 1,039 1,010 1,039
Effect of dilutive
securities:
Dilutive options 30 29 29 28
Convertible zero-coupon
notes due 2017 11 10 11 10
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Dilutive potential
common shares 41 39 40 38
Weighted-average shares
and dilutive potential
common shares 1,051 1,078 1,050 1,077
Basic earnings per share $0.91 $0.66 $1.86 $1.55
Diluted earnings per share $0.88 $0.65 $1.80 $1.51
3. Income tax provisions for interim periods are based on estimated
effective annual income tax rates. The effective income tax rate varies
from the U.S. federal statutory income tax rate primarily because of
variations in the tax rates on foreign income.
4. Inventory
(In Millions)
April 30 October 31
1999 1998
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Finished Goods $4,186 $4,170
Purchased parts and fabricated
assemblies 2,124 2,014
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$6,310 $6,184
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5. The Company paid interest of $121 million and $127 million during the
six months ended April 30, 1999 and 1998, respectively. During the same
periods, the Company paid income taxes of $1,102 million and $439
million, respectively. The effect of foreign currency exchange rate
fluctuations on cash balances held in foreign currencies was not
material.
6. In June 1998, the Financial Accounting Standards Board (FASB)issued
Statement of Financial Accounting Standards No. 133 (SFAS No. 133),
"Accounting for Derivative Instruments and Hedging Activities." This
statement establishes accounting and reporting standards for derivative
instruments and requires recognition of all derivatives as assets or
liabilities in the statement of financial position and measurement of
those instruments at fair value. The statement is effective for fiscal
years beginning after June 15, 1999. In May 1999, FASB approved a
proposal to defer its effective date to fiscal years beginning after
June 15, 2000. At this time, the Company is evaluating when to adopt
the standard and is in the process of determining the impact that
adoption will have on its consolidated financial statements.
In July 1997, the Financial Accounting Standards Board (FASB) Emerging
Issues Task force (EITF) reached a final consensus on Issue 96-16,
"Investor's Accounting for an Investee When the Investor Has a Majority
of the Voting Interest but the Minority Shareholder or Shareholders Have
Certain Approval or Veto Rights." This consensus precludes investors from
consolidating majority-owned investees when a minority shareholder or
shareholders hold substantive participating rights, which, individually
or in the aggregate, would allow such minority shareholders to participate
in significant decisions made in the ordinary course of business. The
Company has followed the guidance in EITF 96-16 with respect to all
investments made after July 24, 1997. This standard has no impact on the
Company's financial statements.
In June 1997, the FASB issued SFAS No. 131 "Disclosures about Segments
of an Enterprise and Related Information." The statement changes
standards for the way that public business enterprises identify and
report operating segments in annual and interim financial statements.
This statement requires selected information about an enterprise's
operating segments and related disclosure about products and services,
geographic areas and major customers. The Company expects to report
multiple segments when it adopts the standard for fiscal year-end 1999.
7. On March 2, 1999, the Company announced its plans to launch a new
company ("Newco") consisting of its test-and-measurement, semiconductor
products, chemical-analysis and medical businesses. The Company is
considering an initial public offering for approximately 15 percent of
the shares in Newco. Subsequent to the initial public offering, the
Company would distribute to its shareholders the remaining 85 percent of
the shares of Newco's common stock held by the Company. The transaction
is expected to be tax free to the Company and to its shareholders. The
completion of the realignment is expected in fiscal 2000 and is
contingent upon receiving certain tax and regulatory approvals and
market conditions.
The full impact of the realignment on the Company's financial position,
results of operations and cash flows cannot be predicted at this time.
However, certain incremental expenses are expected to be incurred in
future periods as decisions are made regarding the realignment.
8. On May 20, 1999, the Company's Board of Directors authorized the future
repurchase of an additional $1 billion of the Company's common stock
under the systematic program used to manage the dilution created by
shares issued under employee stock purchase plans. The Board of
Directors also authorized the repurchase of an additional $1 billion of
the Company's common stock in the open market or in private transactions
under the Company's separate incremental plan. Including the additional
authorizations, the remaining future repurchases in the systematic
program and the separate incremental plan are $1.7 billion and $1.6
billion, respectively.
Item 2. Management's Discussion and Analysis of Financial Condition,
Results of Operations and Factors That May Affect Future
Results (Unaudited).
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
RESULTS OF OPERATIONS
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Realignment. On March 2, 1999, the Company announced its plans to launch a
new company ("Newco") consisting of its test-and-measurement, semiconductor
products, chemical-analysis and medical businesses. The Company is
considering an initial public offering for approximately 15 percent of the
shares in Newco. Subsequent to the initial public offering, the Company
would distribute to its shareholders the remaining 85 percent of the shares
of Newco's common stock held by the Company. The transaction is expected to
be tax free to the Company and to its shareholders. The completion of the
realignment is expected in fiscal 2000 and is contingent upon receiving
certain tax and regulatory approvals and market conditions.
The full impact of the realignment on the Company's financial position,
results of operations and cash flows cannot be predicted at this time.
However, certain incremental expenses are expected to be incurred in future
periods as decisions are made regarding the realignment.
Net Revenue. Net revenue for the second quarter ended April 30, 1999 was
$12.4 billion, an increase of 3 percent from the same period of fiscal
1998. Product sales increased 2 percent and service revenue grew 9 percent
over the corresponding period of fiscal 1998. Net revenue grew 4 percent to
$7.0 billion internationally and 2 percent to $5.4 billion in the U.S.
For the first half of 1999, net revenue was $24.4 billion, an increase of 2
percent over the first half of fiscal 1998. Product sales increased 1
percent and service revenue grew 10 percent over the corresponding period of
fiscal 1998. Net revenue grew 4 percent to $13.8 billion internationally
and was flat at $10.6 billion in the U.S. Currency had no significant
impact on the Company's reported net revenue growth for the second quarter
or the first half ended April 30, 1999.
The second quarter's and the first half of 1999's net revenue growth was
principally due to solid demand for the Company's LaserJet and inkjet
printers, especially color LaserJets and personal inkjets, and related
supplies. There was also strong demand for the Company's home personal
computers, PC servers and information storage products. The strong growth
in unit shipments of the Company's computers and printers was partially
offset by competitive actions designed to increase or maintain market share
which contributed to declines in the average selling prices for many of
these products. Net service revenue growth was driven by strong growth in
service and support revenue, primarily customer support, outsourcing and
financing services.
In addition, net revenue growth from products and services was further
offset by declines in revenue growth in the Company's enterprise server
products, test and measurement business and commercial personal computers.
The decline in enterprise server products is primarily due to a major
product transition in the midrange UNIX server product class. Test and
measurement products experienced a 13% decrease in the first half of 1999.
The decline in test and measurement net revenue in the first half of 1999
was impacted by economic weakness in Asia, declines in electronic general
purpose instruments, as well as the worldwide semiconductor industry
slowdown that began in mid-1998.
The Company anticipates that the rate of revenue growth for the second half
of 1999 will increase compared to the first half of 1999 reflecting the
strong order growth in the second quarter and in comparison to a weak
revenue base reported in the second half of 1998.
Costs and Expenses. Cost of products sold and services as a percentage of
net revenue was 67.1 percent for the second quarter and 67.0 percent for the
first half of fiscal 1999, compared to 68.3 percent for the second quarter
and 67.3 percent for the first half of fiscal 1998. Cost of sales for the
second quarter of 1998 was impacted by special charges primarily for the
consolidation of inkjet manufacturing operations. Without these charges,
cost of sales for the second quarter and first half of 1998 would have been
67.6 percent and 67.0 percent, respectively. The small decrease in the
cost of sales percentage for the second quarter and first half of 1999 was
attributable to several factors. Operational efficiencies in personal
computers and in some measurement products as well as increased volume in
printer supplies resulted in a decrease to cost of sales. This decrease was
offset by the overall continued shift in the Company's product sales mix to
lower gross margin products. The Company expects continued variability in
the cost of sales trend over time, with an overall upward trend over the
long-term, as competitive pricing pressures and mix shifts continue.
Operating Expenses. Operating expenses as a percentage of net revenue were
24.0 percent for the second quarter and 23.5 percent for the first half of
fiscal 1999, compared to 24.5 percent for the second quarter and 23.6
percent for the first half of fiscal 1998. Year-over-year growth in
operating expenses was 1 percent for the second quarter and 2 percent for
the first half of 1999. The increase in operating expenses reflects the
Company's increased marketing expenses incurred to support new product
introductions in several businesses and promotions relating to e-services.
Increased employment to generate growth in LaserJet and enterprise storage
products also contributed to the increase. Fluctuations in foreign currency
exchange rates had no significant impact on the operating growth rate for
the second quarter or first half of 1999.
The Company continues to focus on controlling the rate of growth of
operating expense ratios and optimization of manufacturing processes in
order to improve profitability. However, the Company anticipates that there
will be upward pressure on operating expenses in the second half of 1999
related to normal operations. In addition, the Company expects to start
incurring significant expense impacts from implementing and supporting the
realignment, including costs to create two corporate infrastructures,
additional incentive and retention costs, consulting, accounting and legal
fees, and brand development costs for the new company. These incremental
costs could exceed $200 million in the second half of the year.
Provision for Taxes. The provision for taxes as a percentage of earnings
before taxes was 27 percent for the second quarter and for the first half of
fiscal 1999 compared to 28 percent for the second quarter and 29 percent for
the first half of fiscal 1998. The annual effective tax rate decreased to
27 percent in the first quarter of fiscal 1999 as a result of changes in the
expected geographic mix of the Company's earnings.
Net Earnings. Net earnings for the second quarter of fiscal 1999 were $918
million compared to net earnings of $685 million for the second quarter of
fiscal 1998. For the six months ended April 30, 1999, net earnings were
$1.9 billion compared to net earnings of $1.6 billion for the first half of
1998. Earnings per share for the second quarter and first half of fiscal
1999 on a diluted basis were 88 cents and $1.80 per share, respectively, on
1.05 billion weighted average shares and equivalents, compared to 65 cents
and $1.51 per share on 1.08 billion weighted average shares for the second
quarter and first half of fiscal 1998.
FINANCIAL CONDITION
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Liquidity and Capital Resources. The Company's financial position remains
strong, with cash and cash equivalents and short-term investments of $5.0
billion at April 30, 1999, compared with $4.1 billion at October 31, 1998.
In addition, other long-term investments, relatively low levels of debt
compared to assets, and a large equity base contribute to the Company's
financial flexibility.
Cash flows from operating activities were $2.0 billion during the first six
months of fiscal 1999, compared to $2.8 billion for the corresponding period
of fiscal 1998. The decrease in cash flows from operating activities in
fiscal 1999 was attributable primarily to tax payments made in the first
half of fiscal 1999, partially offset by increased net earnings and
decreases in deferred taxes on earnings. Inventory as a percentage of net
revenue declined to 13.3 percent at April 30, 1999 from 14.5 percent in the
corresponding prior period. The decline in the ratio is attributable to
continued progress in supply-chain management. Overall, there was a slight
increase in accounts and financing receivables as a percentage of net
revenue, from 15.9 percent in the prior period to 16.3 percent as of April
30, 1999. Financing receivables increased 20 percent during the first six
months of fiscal 1999. Growth in the Company's sales-type leasing business
contributed to this increase.
Capital expenditures for the first six months of fiscal 1999 were $626
million, compared to $986 million for the corresponding period in fiscal
1998. The decrease in capital expenditures was due in part to a Company-
wide emphasis on reducing non-essential expenditures combined with increased
outsourcing of certain production processes and slowing capacity
requirements.
The changes in short-term borrowing activities during the first six months
of fiscal 1999 compared to the same period in fiscal 1998 resulted from
increases in the use of short-term borrowings in fiscal 1999. In 1998, net
receipts from maturities of short-term investments were used to pay down
both short- and long-term debt.
Shares of the Company's common stock are repurchased under a systematic
program to manage the dilution created by shares issued under employee stock
plans. During July 1998, the Company's Board of Directors authorized an
additional incremental repurchase program under which up to $2 billion of
the Company's common stock can be repurchased in the open market or in
private transactions. Under both these plans, during the six months ended
April 30, 1999, the Company purchased and retired approximately 10.9 million
shares for an aggregate price of $728 million. During the six months ended
April 30, 1998, the Company purchased and retired approximately 12.4
million shares for an aggregate price of $778 million.
On May 20, 1999, the Company's Board of Directors authorized the future
repurchase of an additional $1 billion of the Company's common stock under
the systematic program used to manage the dilution created by shares issued
under employee stock purchase plans. The Board of Directors also authorized
the repurchase of an additional $1 billion of the Company's common stock in
the open market or in private transactions under the Company's separate
incremental plan. Including the additional authorizations, the remaining
future repurchases in the systematic program and the separate incremental
plan are $1.7 billion and $1.6 billion, respectively.
FACTORS THAT MAY AFFECT FUTURE RESULTS
--------------------------------------
Competition. The Company encounters aggressive competition in all areas of
its business activity. The Company's competitors are numerous, ranging from
some of the world's largest corporations to many relatively small and highly
specialized firms. The Company competes primarily on the basis of
technology, performance, price, quality, reliability, distribution and
customer service and support. Product life cycles are short, and, to remain
competitive, the Company will be required to develop new products,
periodically enhance its existing products and compete effectively on the
basis of the factors described above. In particular, the Company
anticipates that it will have to continue to adjust prices of many of its
products to stay competitive and it will have to effectively manage
financial returns with reduced gross margins.
New Product Introductions. The Company's future operating results may be
adversely affected if the Company is unable to continue to develop,
manufacture and market innovative products and services rapidly that meet
customer requirements for performance and reliability. The process of
developing new high technology products and solutions is inherently complex
and uncertain. It requires accurate anticipation of customer's changing
needs and emerging technological trends. The Company consequently must make
long-term investments and commit significant resources before knowing
whether its predictions will eventually result in products that achieve
market acceptance. After a product is developed, the Company must quickly
manufacture sufficient volumes at acceptable costs. This is a process that
requires accurate forecasting of volumes, mix of products and
configurations. Moreover, the supply and timing of a new product or service
must match customers' demand and timing for the particular product or
service. Given the wide variety of systems, products and services the
Company offers, the process of planning production and managing inventory
levels becomes increasingly difficult.
Inventory Management. Inventory management has become increasingly complex
as the Company continues to sell a greater mix of products, especially
printers and personal computers, through third-party distribution channels.
Channel partners constantly adjust their ordering patterns in response to
the Company's and its competitors' supply into the channel and the timing of
their new product introductions and relative feature sets, as well as
seasonal fluctuations in end-user demand such as the back-to-school and
holiday selling periods. Channel partners may increase orders during times
of shortages, cancel orders if the channel is filled with currently
available products, or delay orders in anticipation of new products. Any
excess supply could result in price reductions and inventory writedowns,
which in turn could adversely affect the Company's gross margins.
Short Product Life Cycles. The short life cycles of many of the Company's
products pose a challenge for the effective management of the transition
from existing products to new products and could adversely affect the
Company's future operating results. Product development or manufacturing
delays, variations in product costs, and delays in customer purchases of
existing products in anticipation of new product introductions are among the
factors that make a smooth transition from current products to new products
difficult. In addition, the timing of introductions by suppliers and
competitors of new products and services may negatively affect future
operating results of the Company, especially when competitive product
introductions coincide with periods leading up to the Company's own
introduction of new or enhanced products. Furthermore, some of the
Company's own new products may replace or compete with certain of the
Company's current products.
Intellectual Property. The Company generally relies upon patent, copyright,
trademark and trade secret laws in the United States and in selected other
countries to establish and maintain its proprietary rights in its technology
and products. However, there can be no assurance that any of the Company's
proprietary rights will not be challenged, invalidated or circumvented, or
that any such rights will provide significant competitive advantages.
Moreover, because of the rapid pace of technological change in the
information technology industry, many of the Company's products rely on key
technologies developed by others. There can be no assurance that the
Company will be able to continue to obtain licenses to such technologies.
In addition, from time to time, the Company receives notices from third
parties regarding patent or copyright claims. Any such claims, with or
without merit, could be time-consuming to defend, result in costly
litigation, divert management's attention and resources and cause the
Company to incur significant expenses. In the event of a successful claim
of infringement against the Company and failure or inability of the Company
to license the infringed technology or to substitute similar non-infringing
technology, the Company's business could be adversely affected.
Reliance on Suppliers. Portions of the Company's manufacturing operations
are dependent on the ability of suppliers to deliver quality components,
subassemblies and completed products in time to meet critical manufacturing
and distribution schedules. The Company periodically experiences
constrained supply of certain component parts in some product lines as a
result of strong demand in the industry for those parts. Such constraints,
if persistent, may adversely affect the Company's operating results until
alternate sourcing can be developed. In order to secure components for
production and introduction of new products, the Company at times makes
advance payments to certain suppliers, and often enters into noncancellable
purchase commitments with vendors for such components. Volatility in the
prices of these component parts, the possible inability of the Company to
secure enough components at reasonable prices to build new products in a
timely manner in the quantities and configurations demanded or, conversely,
a temporary oversupply of these parts, could adversely affect the Company's
future operating results.
Reliance on Third-Party Distribution Channels. The Company continues to
expand into third-party distribution channels to accommodate changing
customer preferences. As a result, the financial health of wholesale and
retail distributors of the Company's products, and the Company's
continuing relationships with such distributors, are becoming more important
to the Company's success. Some of these companies are thinly capitalized
and may be unable to withstand changes in business conditions. The
Company's financial results could be adversely affected if the financial
condition of certain of these third parties substantially weakens or if the
Company's relationship with them deteriorates.
International. Sales outside the United States make up more than half of
the Company's revenues. In addition, a portion of the Company's product and
component manufacturing, along with key suppliers, are located outside the
United States. Accordingly, the Company's future results could be adversely
affected by a variety of factors, including changes in a specific country's
or region's political conditions or changes or continued weakness in
economic conditions, trade protection measures, import or export licensing
requirements, the overlap of different tax structures, unexpected changes in
regulatory requirements and natural disasters.
Derivative Financial Instruments. The Company is also exposed to foreign
currency exchange rate risk inherent in its sales commitments, anticipated
sales and assets and liabilities denominated in currencies other than the
U.S. dollar, as well as interest rate risk inherent in the Company's debt,
investment and finance receivable portfolio. As more fully described in the
notes to the Company's 1998 annual report to shareholders, the Company's
risk management strategy utilizes derivative financial instruments,
including forwards, swaps and purchased options to hedge certain foreign
currency and interest rate exposures, with the intent of offsetting gains
and losses that occur on the underlying exposures with gains and losses on
the derivative contracts hedging them. The Company does not enter into
derivatives for trading purposes.
The Company has performed a sensitivity analysis assuming a hypothetical 10%
adverse movement in foreign exchange rates and interest rates applied to the
hedging contracts and underlying exposures described above. As of April 30,
1999 and 1998, the analysis indicated that such market movements would not
have a material effect on the Company's consolidated financial position,
results of operations or cash flows. Actual gains and losses in the future
may differ materially from that analysis, however, based on changes in the
timing and amount of interest rate and foreign currency exchange rate
movements and the Company's actual exposures and hedges.
Acquisitions, Strategic Alliances, Joint Ventures and Divestitures. As a
matter of course, the Company frequently engages in discussions with a
variety of parties relating to possible acquisitions, strategic alliances,
joint ventures and divestitures. Although consummation of any transaction
is unlikely to have a material effect on the Company's results as a whole,
the implementation or integration of a transaction may contribute to the
Company's results differing from the investment community's expectation in a
given quarter. Divestitures may result in the cancellation of orders and
charges to earnings. Acquisitions and strategic alliances may require,
among other things, integration or coordination with a different company
culture, management team organization and business infrastructure. They may
also require the development, manufacture and marketing of product offerings
with the Company's products in a way that enhances the performance of the
combined business or product line. Depending on the size and complexity of
the transaction, successful integration depends on a variety of factors,
including the hiring and retention of key employees, management of
geographically separate facilities, and the integration or coordination of
different research and development and product manufacturing facilities.
All of these efforts require varying levels of management resources, which
may temporarily adversely impact other business operations.
Earthquake. A portion of the Company's research and development activities,
its corporate headquarters, other critical business operations and certain
of its suppliers are located near major earthquake faults. The ultimate
impact on the Company, its significant suppliers and the general
infrastructure is unknown, but operating results could be materially
affected in the event of a major earthquake. The Company is predominantly
uninsured for losses and interruptions caused by earthquakes.
Environmental. Certain of the Company's operations involve the use of
substances regulated under various federal, state, and international laws
governing the environment. It is the Company's policy to apply strict
standards for environmental protection to sites inside and outside the U.S.,
even if not subject to regulations imposed by local governments. The
liability for environmental remediation and related costs is accrued when it
is considered probable and the costs can be reasonably estimated.
Environmental costs are presently not material to the Company's operations
or financial position.
Profit Margin. The profit margins realized by the Company vary somewhat
among its products, its customer segments and its geographic markets.
Consequently, the overall profitability of the Company's operations in any
given period is partially dependent on the product, customer and geographic
mix reflected in that period's net sales.
Year 2000. The information provided below constitutes a "Year 2000
Readiness Disclosure" for purposes of the Year 2000 Information and
Readiness Disclosure Act.
The Year 2000 ("Y2K") problem arises from the use of a two-digit field to
identify years in computer programs, e.g., 85=1985, and the assumption of a
single century, the 1900s. Any program so created may read, or attempt to
read, "00" as the year 1900. There are two other related issues which could
also lead to incorrect calculations or failure, such as (i) some systems'
programming assigns special meaning to certain dates, such as 9/9/99, and
(ii) the year 2000 is a leap year. Accordingly, some computer hardware and
software, including programs embedded within machinery and parts, will need
to be modified prior to the year 2000 to remain functional. The Company's
Y2K initiatives are focusing primarily on four areas of potential impact:
internal information technology (IT) systems; internal non-IT systems and
processes, including services and embedded chips (controllers); the
Company's products and services, and the readiness of significant third
parties with whom the Company has material business relationships. The
Company established a Y2K Program Office in 1997 to coordinate these
programs across the enterprise and to provide a single point of contact for
information about the Company's Y2K programs. The Company's Y2K efforts in
these areas are led by the Y2K General Manager who reports directly to the
Company's senior management.
The costs associated with the Company's IT internal readiness actions are a
combination of incremental external spending and use of existing internal
resources. The Company estimates that over the life of its IT internal
readiness effort, it will have spent a total of approximately $250 million
over a multi-year period. The Company expects to implement successfully the
systems and programming changes necessary to address Y2K internal IT and
non-IT readiness issues and material third party relationships, and based on
current estimates, does not believe that the costs associated with such
actions will have a material effect on the Company's results of operations
or financial condition. However, the costs of such actions may vary from
quarter to quarter. There can be no assurance, however, that there will not
be a delay in, or increased costs associated with the implementation of such
changes. In addition, failure to achieve Y2K readiness for the Company's
internal systems could delay its ability to manufacture and ship products
and deliver services, disrupt its customer service and technical support
facilities, and interrupt customer access to its online products and
services. The Company's inability to perform these functions could have an
adverse effect on future results of operations or financial condition.
Internal IT Systems. The Company has established a dedicated Y2K IT
Internal Readiness Program Organization to oversee the Company's worldwide
Y2K internal IT application and infrastructure readiness activities. The
Internal Readiness IT Program Organization provides monthly progress reports
to the Company's senior management. The Internal Readiness IT Program
Organization is charged with raising awareness throughout the Company,
developing tools and methodologies for addressing the Y2K issue, monitoring
the development and implementation of business and infrastructure plans to
bring non-compliant applications into compliance on a timely basis and
identifying and assisting in resolving high-risk issues.
The Company is approaching its Y2K IT internal readiness program in the
following four phases: (1) assessment, (2) planning, (3) preparation and (4)
implementation. The assessment phase involves taking an inventory of the
Company's internal IT applications to prioritize risk, identifying failure
dates, defining a solution strategy, estimating repair costs and
communicating across and within business units regarding the magnitude of
the problem and the need to address Y2K issues. The planning phase consists
of identifying the tasks necessary to ensure readiness, scheduling
remediation plans for applications and infrastructure, and determining
resource requirements and allocations. The third phase, preparation,
involves readying the development and testing environments, and piloting the
remediation process. Implementation, the last phase, consists of executing
the Company's plans to fix, test and implement critical applications and
associated infrastructure, and putting in place contingency plans for
processes that have a high impact on the Company's businesses.
The Company is targeting its efforts to ensure that its critical IT
applications will be Y2K compliant by July 31, 1999. The assessment,
planning and preparation phases have been completed. As of April 30, 1999,
the implementation phase is approximately 75 percent complete.
Internal Non-IT Systems and Processes. Non-IT systems include, but are not
limited to, those systems that are not commonly thought of as IT systems,
such as telephone/PBX systems; fax machines; facilities systems regulating
alarms, building access and sprinklers; manufacturing, assembly and
distribution equipment; and other miscellaneous systems and processes. Y2K
readiness for these internal non-IT systems is the responsibility of the
Company's worldwide operating units and their respective functions and
operations, e.g., facilities, research and development, manufacturing,
distribution, logistics, sales and customer support.
The Company's Y2K Program Office has developed a comprehensive process to
assure all Company operations and global business units use a structured and
standardized methodology to organize, plan and implement their Y2K
readiness.
The Company has also established a Year 2000 Council to coordinate its
overall internal readiness and its business continuity planning efforts. It
is composed of representatives from the major business units within the
Company and the critical corporate and infrastructure functions that support
them. The Council is chaired by the Company's Year 2000 General Manager and
has initiated a comprehensive program to ensure timely and consistent
business continuity planning by all of the Company's business units. The
program objective is to assure that substantially all Y2K testing, internal
mitigation and remediation activities, and business contingency plans are
finalized by July 31, 1999. From July 31, 1999, until November 30, 1999, the
company's Y2K internal readiness solutions, contingency plans, crisis
management and recovery mechanisms will be further stress-tested to ensure
full preparation.
Product and Customer Readiness. The Company's newly introduced products are
Y2K compliant. However, certain hardware and software products currently
installed at customer sites will require upgrade or other remediation. Some
of these products are used in critical applications where the impact of
non-performance to these customers and other parties could be significant.
While the Company believes its customers are responsible for the Y2K
readiness of their IT and business environments, the Company is taking
significant steps to enable customers to achieve their readiness goals,
thereby preserving customer satisfaction and brand reputation. In 1997, the
Company established a dedicated Y2K Product Compliance Program Office to
coordinate the Company's worldwide Y2K product compliance activities. The
Product Compliance Program Office is charged with developing and overseeing
implementation of plans to identify all standard products delivered since
January 1, 1995; to test those products for compliance; to identify an
appropriate path to compliance for non-compliant standard products; and to
communicate the status and necessary customer action for non-compliant
standard products.
The Company has an internet website dedicated to communicating Y2K issues to
a broad customer base. This website includes a product compliance search
page that allows customers to look up the status of the Company's products
they have installed. In certain areas, the Company is taking additional
steps to identify affected customers, raise customer awareness related to
non-compliance of certain Company products and help customers to assess
their risks. The Company is in the process of implementing plans to
accommodate increased levels of customer assistance in the first half of
fiscal 2000 and currently anticipates that a significant portion of the
costs related to such actions would occur in the fourth quarter of fiscal
1999 and the first half of fiscal 2000.
All of these efforts are coordinated by the HP Year 2000 Products and
Customers Board of Directors ("Board"), which is composed of representatives
for all of the Company's product and service business units, and which works
in conjunction with the Product Compliance Program Office to develop and
implement the Company's Year 2000 policies for products and services. The
Company's Year 2000 General Manager chairs the Board.
The costs of the readiness program for products are primarily costs of
existing internal resources largely absorbed within existing engineering
spending levels. These costs were incurred primarily in fiscal 1998 and
earlier years and were not broken out from other product engineering costs.
Historical Y2K customer satisfaction costs were not material. Future
product readiness costs, including those for customer satisfaction, are not
anticipated to be material. The Company is aware of the potential for legal
claims against it and other companies for damages arising from products that
are not Y2K compliant, management believes that reasonable communication and
customer satisfaction steps are under way so that any such claims against the
Company would be without merit or would not otherwise result in material
liability for the Company.
It is unknown how Y2K issues may affect customer spending patterns. As
customers focus their attention and capital budgets in the near term on
preparing their own businesses for the Year 2000, they may either delay or
accelerate purchases of new applications, services and systems from the
Company. Many of the Company's products run custom software or connect to
other systems or peripheral products that may be adversely affected by
operating system or hardware upgrades. Although it is possible that these
factors may increase demand for certain of the Company's products and
services, the increase may be offset by the softening in demand for other
offerings. As a result, these events may affect the Company's future
revenues and revenue patterns.
Material Third-Party Relationships. The Company has developed a Y2K process
for dealing with its key suppliers, contract manufacturers, distributors,
vendors and partners. The process generally involves the following steps:
(i) initial supplier survey, (ii) risk assessment and contingency planning,
(iii) follow-up supplier reviews and escalation, if necessary, and where
relevant, (iv) testing. To date, the Company has received formal responses
from all of its critical suppliers. Most of them have responded that they
expect to address all their significant Y2K issues on a timely basis. The
Company regularly reviews and monitors the suppliers' Y2K readiness plans
and performance. Based on the Company's risk assessment, selective on-site
reviews have been performed. Risk analysis has been completed with the
Company's base of suppliers and contingency plans are now being developed
and tested. All critical surveys and testing efforts have been completed by
June 1, 1999. In some cases, to meet Y2K readiness, the Company has replaced
suppliers or eliminated suppliers from consideration for new business. Where
efforts to work with critical suppliers have not been successful, contingency
planning generally emphasizes the identification of substitute and
second-source suppliers, or in certain situations includes a planned increase
in the level of inventory held (e.g., in the case of sole sources). The
Company has also contracted with multiple transportation companies to provide
product delivery alternatives. The Company has also completed substantially
all Electronic Data Interchange (EDI) migration and testing with its supply
base.
The Company is working to identify and analyze the most reasonably likely
worst-case scenarios for third-party relationships affected by Y2K. These
scenarios could include possible infrastructure collapse, the failure of
power and water supplies, major transportation disruptions, unforeseen
product shortages due to hoarding of products and sub-assemblies and
failures of communications and financial systems. Any one of these
scenarios could have a major and material effect on the Company's ability
to build its products and deliver services to its customers. While the
Company has contingency plans in place to address most issues under its
control, an infrastructure problem outside of its control or some
combination of several of these problems could result in a delay in product
shipments depending on the nature and severity of the problems. The Company
would expect that most utilities and service providers would be able to
restore service within days although more pervasive system problems
involving multiple providers could last two to four weeks or more depending
on the complexity of the systems and the effectiveness of their contingency
plans.
Although the Company is dedicating substantial resources towards attaining
Y2K readiness, there is no assurance it will be successful in its efforts to
identify and address all Y2K issues. Even if the Company acts in a timely
manner to complete all of its assessments; identifies, develops and
implements remediation plans believed to be adequate; and develops
contingency plans believed to be adequate, some problems may not be
identified or corrected in time to prevent material adverse consequences to
the Company.
The discussion above regarding estimated completion dates, costs, risks and
other forward-looking statements regarding Y2K is based on the Company's
best estimates given information that is currently available and is subject
to change. As the Company continues to progress with its Y2K initiatives, it
may discover that actual results will differ materially from these
estimates.
Adoption of the Euro. In 1997, the Company established a dedicated task
force to address the issues raised by the introduction of a European single
currency (the Euro) for initial implementation as of January 1, 1999 and
during the transition period through January 1, 2002. Since the beginning
of the transition period, product prices in local currencies are being
converted to Euros as required. At an appropriate point during the
transition period, product prices in participating countries will be
established and stored in Euros, and converted to local denominations.
System changes were implemented to give multi-currency capability to the
few internal applications that did not have it yet, or to ensure that
external partners facing systems processing euro conversions be compliant
with the European council regulations.
The Company has developed plans to support display and printing of the Euro
character by impacted Hewlett-Packard products. Substantially all products
are currently able to perform these functions. Current information about
the impact of the adoption of the Euro on the Company's products and
businesses is available at the Hewlett-Packard Euro Web site.
The Company does not presently expect that introduction and use of the Euro
will materially affect the Company's foreign exchange and hedging activities
or the Company's use of derivative instruments. Management does not expect
that the introduction of the Euro will result in any material increase in
costs to the Company and all costs associated with the introduction of the
Euro will be expensed to operations as incurred. While the Company will
continue to evaluate the impact of the Euro introduction over time, based on
currently available information, management does not believe that the
introduction of the Euro currency will have a material adverse impact on the
Company's financial condition or overall trends in results of operations.
Quarterly Fluctuations and Volatility of Stock Prices. Although the Company
believes that it has the product offerings and resources needed for
continuing success, future revenue and margin trends cannot be reliably
predicted and may cause the Company to adjust its operations, which could
cause period-to-period fluctuations in operating results.
The Company's stock price, like that of other technology companies, is
subject to significant volatility. The announcement of new products,
services or technological innovations by the Company or its competitors,
quarterly variations in the Company's results of operations, changes in
revenue or earnings estimates by the investment community and speculation in
the press or investment community are among the factors affecting the
Company's stock price. In addition, the stock price may be affected by
general market conditions and domestic and international macroeconomic
factors unrelated to the Company's performance. Because of the foregoing
reasons, recent trends should not be considered reliable indicators of
future stock prices or financial results.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
A discussion of the Company's exposure to, and management of, market risk
appears in Item 2 of this Form 10-Q under the heading "Factors That May Affect
Future Results."
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits:
A list of exhibits is set forth in the Exhibit Index found on
page 21 of this report.
(b) Reports on Form 8-K:
Report on Form 8-K filed March 2, 1999 with respect to Hewlett-
Packard Company's announcement that its Board of Directors approved
plans to pursue a strategic realignment to create two independent
companies.
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
SIGNATURE
---------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
HEWLETT-PACKARD COMPANY
(Registrant)
Dated: June 11, 1999 By:/s/Robert P. Wayman
--------------------------
Robert P. Wayman
Executive Vice President,
Finance and Administration
(Chief Financial Officer)
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
EXHIBIT INDEX
-------------
Exhibits:
1. Not applicable.
2-4 None.
5-9. Not applicable.
10. None
11. See Item 2 in Notes to Consolidated Condensed Financial
Statement on Page 6.
12-14. Not applicable.
15. None.
16-17. Not applicable.
18-19. None.
20-21. Not applicable.
22-24. None.
25-26. Not applicable.
27. Financial Data Schedule.
28. Not applicable.
99. None.
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