Fitch Ratings has placed the ratings for Hewlett-Packard Company (HP) and its wholly-owned subsidiary Electronic Data Systems LLC (EDS) on Rating Watch Negative. A list of affected ratings follows at the end of this release.
The Rating Watch Negative follows the company's announcement that its Board of Directors has authorized the exploration of strategic alternatives for its Personal Systems Group (PSG). HP also announced with Autonomy Corporation plc (Autonomy) the terms under which HP will acquire all of the outstanding shares of Autonomy for approximately $11 billion.
Fitch believes the company has various resources at its disposal to maintain existing credit metrics post the aforementioned transactions. These include existing $13 billion of cash balances, Fitch's expectations for substantial free cash flow over the next year, and potential proceeds from a PSG spin or sale.
Existing ratings could be affirmed should the company cease all non-dilution based share repurchases over the next year and use free cash flow for debt reduction, as well as receive proceeds from a PSG spin or sale that, in combination with free cash flow, de-levers the company back to the existing credit metric ranges. Existing ratings have little tolerance for any deviation from these scenarios.
Risks would remain related to the company's acquisition strategy as, in Fitch's opinion, the Autonomy acquisition does not complete a full software portfolio offering for HP, nor does it provide clarity as to the ultimate make-up of HP's software portfolio. This is exacerbated by an enterprise software industry that is characterized by premium acquisition prices and a very difficult competitive landscape.
Downside scenarios include the resumption of its share repurchase program without debt reduction, a PSG spin or sale without material proceeds back to HP or with proceeds that are not used for debt reduction, and/or a lack of clarity related to future acquisition strategies. These scenarios would result in one to two notch downgrades depending on the combined circumstances.
The ratings are supported by HP's:
--Strong financial flexibility and liquidity provided by nearly $13 billion of cash (primarily offshore), and consistent annual free cash flow (FCF) in excess $7 billion in the last three fiscal years;
--Broad product portfolio with strong worldwide market share positions in enterprise servers (#1), printing (#1), and IT services (#2);
--Significant recurring revenue primarily via printer supplies, outsourcing and technology services, and software maintenance (33% of total revenue);
--Extensive market coverage due to established multi-channel distribution model;
--Geographically diversified revenue base with approximately 66% of revenue derived from outside the U.S.; and
--Management's track record of debt reduction after the $14 billion EDS acquisition in 2008, as well as a remaining need for HP Financial Services to maintain strong investment grade ratings post potential divestiture of the PSG business.
Rating concerns include:
--Risk of core debt (non-financing) increases to achieve financial and/or business objectives, such as sizable debt-financed share repurchases, particularly in light of HP's pressured stock price, and/or acquisitions, resulting in a material reduction of credit protection measures;
--An overall weak global economic environment;
--Weak stock price performance over the last several months;
--Consistent, material increases in cash dividends long-term, which could pressure free cash flow and financial flexibility in the absence of commensurate growth in profitability, thereby necessitating further increases in core debt to fund acquisitions and/or share repurchases.
--The potential threat to HP's highly profitable printer supplies business from strong adoption of tablets and/or remanufactured/counterfeit cartridges.
--Weak consumer demand in mature markets, which Fitch attributes to a shift in consumer demand priorities toward tablets and smart phones, and overall economic uncertainty.
Fitch places the following ratings on Rating Watch Negative:
Hewlett-Packard Company
--Long-term Issuer Default Rating (IDR) 'A+';
--Senior credit facilities 'A+';
--Senior unsecured debt 'A+';
--Short-term IDR 'F1';
--Commercial paper (CP) 'F1'.
EDS
--Long-term IDR 'A+';
--Senior unsecured debt 'A+'.
Hewlett-Packard International Bank PLC
--Short-term IDR 'F1'.
--Commercial paper (CP) 'F1'.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology' (Aug. 12, 2011).
Applicable Criteria and Related Research:
Corporate Rating Methodology
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=647229
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