To Save H.P., Break It in Two

Published November 28 in NY Times DealBook:

Hewlett-Packard’s $8.8 billion write-down of its Autonomy acquisition is just the latest evidence of the steady decline of one of the world’s great companies. Don’t blame Meg Whitman, the chief executive. She is just cleaning up the messes created since 1999 by her three predecessors and H.P.’s strategically challenged board of directors.

For more than thirty years, Hewlett-Packard served as my role model of a company. Having met David Packard in 1969, I deeply admired his, and Bill Hewlett’s, philosophy of “management by wandering around” and “The Hewlett Way.”

Like the founders of my former company Medtronic, Hewlett and Packard started in a garage. They never forgot that the company was an egalitarian organization focused on innovations that met their customers’ needs. Trying to compete with H.P. in its prime was very difficult because of its innovative products, superior customer service and product quality.

The founders also created a financial model that enabled the company to sustain its growth for 40 years: grow revenue at 20 percent, maintain 20 percent operating margins, and reinvest approximately 10 percent of revenue in research and development. Their internally groomed successors, John A. Young and Lewis E. Platt, carried on their philosophy for another twenty years.

In 1999, everything changed. Based on a consultant’s recommendation, the board decided to spin off its core business of test, measurement and medical instruments in order to focus on the rapidly growing computer business.

Wanting to shift its culture, the board passed over several internal candidates to bring in Carly Fiorina from AT&T and its Lucent spinoff. She quickly abandoned The Hewlett Way, moving aggressively to reshape the company as a prominent marketer of computer equipment and enterprise systems. Her fateful move was acquiring Compaq Computer, despite the objections of several board members, in order to become the leader in low-cost personal computers.

Ms. Fiorina tried to focus simultaneously on high-end enterprise systems. The split focus was costly. In its bid to buy the business consulting practice of PricewaterhouseCoopers, H.P. lost out to I.B.M. As time continued, Hewlett’s growth and profitability stagnated.

Ms. Fiorina was succeeded by NCR’s Mark V. Hurd, who focused on near-term sales growth and cost reduction, doubling the company’s earnings and stock price. Mr. Hurd also acquired Electronic Data Systems’ computer services capabilities, an unfortunate deal that led to an $8 billion write-down in 2012. The company’s investment in R&D, meanwhile, fell to 2.3 percent from 4 percent.

When Mr. Hurd resigned after admitting he had violated company standards, the board hastily hired Léo Apotheker, the failed co-chief executive of the enterprise software giant SAP. Mr. Apotheker proposed selling the company’s PC business and dropping its tablets and smartphones to concentrate on systems and software. He acquired the British software maker Autonomy for $10 billion.

His strategies caused such controversy that he was terminated after only 11 months and succeeded by a board member, Ms. Whitman, the former eBay C.E.O. and unsuccessful Republican candidate for governor of California.

Ms. Whitman has tried to stabilize Hewlett-Packard’s management and strategy by facing the issues forthrightly. She is cleaning house and cutting costs, while deferring hopes for a turnaround until 2014. The company’s share price has continued to fall, hitting a low in November of $11.35, 79 percent below its 2010 high water mark.

With 330,000 employees and $120 billion in revenue, H.P. has become too big to manage.

It is really two businesses: a commodity personal computer and printer business and an enterprise systems, services and software business. The characteristics of these businesses are entirely different.

The commodity business requires low costs and aggressive distribution through multiple channels combined with rapid new product introductions, qualities incompatible with the company’s historically high cost structure and cumbersome organization.

The enterprise systems business requires heavy investments in research and development, including very sophisticated software (an area where H.P. is sorely lagging behind I.B.M., Oracle and SAP), high touch customer service and an expensive support structure to meet its customers’ complex needs.

The time is ripe to split the company into two businesses — enterprise systems and computer hardware — each with roughly $60 billion in revenue, positive cash flow and solid profitability.

Ms. Whitman could run enterprise systems, using her strengths in software and customer relationships to restore the company to its original roots and The Hewlett Way.

Upon being spun off, the new computer hardware company could be run by Todd Bradley, executive vice president of the printing and personal systems group and a former chief of Palm. He could create a leaner, more competitive company to take on Dell, Lenovo and the Japanese printer companies. And the restructuring could eliminate as much as $1 billion of corporate overhead required to manage H.P.’s current set of businesses.

In its current form, Hewlett-Packard is a wasting asset, whose value to customers, employees and shareholders is steadily declining. It is time for the board to move quickly to restore its former status as a company everyone can admire, one that can compete successfully in two very different global markets.

If it does so, Hewlett-Packard’s beleaguered shareholders will finally benefit from a substantial jump in the combined market valuation of the separate companies.