UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One) | ||
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
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For the quarterly period ended: April 30, 2009 |
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Or |
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission file number 1-4423
HEWLETT-PACKARD COMPANY
(Exact name of registrant as specified in its charter)
Delaware (State or other jurisdiction of incorporation or organization) |
94-1081436 (I.R.S. employer identification no.) |
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3000 Hanover Street, Palo Alto, California (Address of principal executive offices) |
94304 (Zip code) |
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(650) 857-1501 (Registrant's telephone number, including area code) |
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 (the "Exchange Act") 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 ý No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer ý | Accelerated filer o | Non-accelerated filer o (Do not check if a smaller reporting company) |
Smaller reporting company o |
Indicate by check mark whether the registrant is a shell company (as defined by Rule 12b-2 of the Exchange Act). Yes o No ý
The number of shares of HP common stock outstanding as of May 31, 2009 was 2,386,262,488 shares.
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
INDEX
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Page No. |
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Part I. |
Financial Information | |||||||
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Item 1. | Financial Statements |
3 | |||||
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Consolidated Condensed Statements of Earnings for the three and six months ended April 30, 2009 and 2008 (Unaudited) |
3 | ||||||
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Consolidated Condensed Balance Sheets as of April 30, 2009 (Unaudited) and as of October 31, 2008 (Audited) |
4 | ||||||
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Consolidated Condensed Statements of Cash Flows for the six months ended April 30, 2009 and 2008 (Unaudited) |
5 | ||||||
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Notes to Consolidated Condensed Financial Statements (Unaudited) |
6 | ||||||
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Item 2. | Management's Discussion and Analysis of Financial Condition and Results of Operations |
57 | |||||
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Item 3. | Quantitative and Qualitative Disclosures About Market Risk |
98 | |||||
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Item 4. | Controls and Procedures |
99 | |||||
Part II. |
Other Information | |||||||
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Item 1. | Legal Proceedings |
100 | |||||
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Item 1A. | Risk Factors |
100 | |||||
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Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds |
100 | |||||
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Item 4. | Submission of Matters to a Vote of Security Holders |
101 | |||||
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Item 6. | Exhibits |
101 | |||||
Signature |
102 | |||||||
Exhibit Index |
103 |
Forward-Looking Statements
This Quarterly Report on Form 10-Q, including "Management's Discussion and Analysis of Financial Condition and Results of Operations" in Item 2 of Part I of this report, contains forward-looking statements that involve risks, uncertainties and assumptions. If the risks or uncertainties ever materialize or the assumptions prove incorrect, the results of Hewlett-Packard Company and its consolidated subsidiaries ("HP") may differ materially from those expressed or implied by such forward-looking statements and assumptions. All statements other than statements of historical fact are statements that could be deemed forward-looking statements, including but not limited to any projections of revenue, margins, expenses, tax provisions, earnings, cash flows, benefit obligations, share repurchases, acquisition synergies, currency exchange rates or other financial items; any statements of the plans, strategies and objectives of management for future operations, including the execution of cost reduction programs and restructuring and integration plans; any statements concerning expected development, performance or market share relating to products or services; any statements regarding future economic conditions or performance; any statements regarding pending investigations, claims or disputes; any statements of expectation or belief; and any statements of assumptions underlying any of the foregoing. Risks, uncertainties and assumptions include macroeconomic and geopolitical trends and events; the execution and performance of contracts by HP and its customers, suppliers and partners; the challenge of managing asset levels, including inventory; the difficulty of aligning expense levels with revenue changes; assumptions related to pension and other post-retirement costs; expectations and assumptions relating to the execution and timing of cost reduction programs and restructuring and integration plans; the possibility that the expected benefits of business combination transactions may not materialize as expected; the resolution of pending investigations, claims and disputes; and other risks that are described herein, including but not limited to the items discussed in "Factors that Could Affect Future Results" set forth in "Management's Discussion and Analysis of Financial Condition and Results of Operations" in Item 2 of Part I of this report, and that are otherwise described from time to time in HP's Securities and Exchange Commission reports, including HP's Annual Report on Form 10-K for the fiscal year ended October 31, 2008. HP assumes no obligation and does not intend to update these forward-looking statements.
2
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Consolidated Condensed Statements of Earnings
(Unaudited)
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Three months ended April 30 |
Six months ended April 30 |
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2009 | 2008 | 2009 | 2008 | |||||||||||
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In millions, except per share amounts |
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Net revenue: |
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Products |
$ | 17,398 | $ | 22,566 | $ | 36,021 | $ | 45,686 | |||||||
Services |
9,863 | 5,605 | 19,951 | 10,862 | |||||||||||
Financing income |
90 | 91 | 179 | 181 | |||||||||||
Total net revenue |
27,351 | 28,262 | 56,151 | 56,729 | |||||||||||
Costs and expenses: |
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Cost of products |
13,345 | 16,825 | (1) | 27,509 | 34,159 | (1) | |||||||||
Cost of services |
7,490 | 4,297 | 15,309 | 8,325 | |||||||||||
Financing interest |
84 | 83 | 170 | 165 | |||||||||||
Research and development |
716 | 908 | 1,448 | 1,806 | |||||||||||
Selling, general and administrative |
2,880 | 3,331 | (1) | 5,773 | 6,627 | (1) | |||||||||
Amortization of purchased intangible assets |
380 | 211 | 792 | 417 | |||||||||||
In-process research and development charges |
| 13 | 6 | 13 | |||||||||||
Restructuring charges |
94 | 4 | 240 | 14 | |||||||||||
Acquisition-related charges |
75 | | 123 | | |||||||||||
Total operating expenses |
25,064 | 25,672 | 51,370 | 51,526 | |||||||||||
Earnings from operations |
2,287 | 2,590 | 4,781 | 5,203 | |||||||||||
Interest and other, net |
(180 | ) | 3 | (412 | ) | 75 | |||||||||
Earnings before taxes |
2,107 | 2,593 | 4,369 | 5,278 | |||||||||||
Provision for taxes |
391 | 536 | 799 | 1,088 | |||||||||||
Net earnings |
$ | 1,716 | $ | 2,057 | $ | 3,570 | $ | 4,190 | |||||||
Net earnings per share: |
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Basic |
$ | 0.72 | $ | 0.83 | $ | 1.49 | $ | 1.67 | |||||||
Diluted |
$ | 0.70 | $ | 0.80 | $ | 1.46 | $ | 1.61 | |||||||
Cash dividends declared per share |
$ | | $ | | $ | 0.16 | $ | 0.16 | |||||||
Weighted-average shares used to compute net earnings per share: |
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Basic |
2,394 | 2,473 | 2,402 | 2,516 | |||||||||||
Diluted |
2,438 | 2,557 | 2,448 | 2,603 | |||||||||||
The accompanying notes are an integral part of these Consolidated Condensed Financial Statements.
3
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Consolidated Condensed Balance Sheets
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April 30, 2009 |
October 31, 2008 |
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In millions, except par value |
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(Unaudited) |
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ASSETS |
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Current assets: |
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Cash and cash equivalents |
$ | 12,851 | $ | 10,153 | |||||
Short-term investments |
65 | 93 | |||||||
Accounts receivable |
14,666 | 16,928 | |||||||
Financing receivables |
2,352 | 2,314 | |||||||
Inventory |
5,746 | 7,879 | |||||||
Other current assets |
11,506 | 14,361 | |||||||
Total current assets |
47,186 | 51,728 | |||||||
Property, plant and equipment |
10,807 | 10,838 | |||||||
Long-term financing receivables and other assets |
10,410 | 10,468 | |||||||
Goodwill |
32,976 | 32,335 | |||||||
Purchased intangible assets |
7,136 | 7,962 | |||||||
Total assets |
$ | 108,515 | $ | 113,331 | |||||
LIABILITIES AND STOCKHOLDERS' EQUITY |
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Current liabilities: |
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Notes payable and short-term borrowings |
$ | 5,702 | $ | 10,176 | |||||
Accounts payable |
11,421 | 14,917 | |||||||
Employee compensation and benefits |
3,233 | 4,159 | |||||||
Taxes on earnings |
546 | 869 | |||||||
Deferred revenue |
6,342 | 6,287 | |||||||
Accrued restructuring |
1,186 | 1,099 | |||||||
Other accrued liabilities |
13,153 | 15,432 | |||||||
Total current liabilities |
41,583 | 52,939 | |||||||
Long-term debt |
12,978 | 7,676 | |||||||
Other liabilities |
13,412 | 13,774 | |||||||
Commitments and contingencies |
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Stockholders' equity: |
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Preferred stock, $0.01 par value (300 shares authorized; none issued) |
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Common stock, $0.01 par value (9,600 shares authorized; 2,391 and 2,415 shares issued and outstanding, respectively) |
24 | 24 | |||||||
Additional paid-in capital |
13,850 | 14,012 | |||||||
Retained earnings |
27,594 | 24,971 | |||||||
Accumulated other comprehensive loss |
(926 | ) | (65 | ) | |||||
Total stockholders' equity |
40,542 | 38,942 | |||||||
Total liabilities and stockholders' equity |
$ | 108,515 | $ | 113,331 | |||||
The accompanying notes are an integral part of these Consolidated Condensed Financial Statements.
4
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Consolidated Condensed Statements of Cash Flows
(Unaudited)
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Six months ended April 30 |
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2009 | 2008 | |||||||||
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In millions |
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Cash flows from operating activities: |
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Net earnings |
$ | 3,570 | $ | 4,190 | |||||||
Adjustments to reconcile net earnings to net cash provided by operating activities: |
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Depreciation and amortization |
2,367 | 1,509 | |||||||||
Stock-based compensation expense |
351 | 309 | |||||||||
Provision for bad debt and inventory |
348 | 185 | |||||||||
In-process research and development charges |
6 | 13 | |||||||||
Restructuring charges |
240 | 14 | |||||||||
Deferred taxes on earnings |
52 | 986 | |||||||||
Excess tax benefit from stock-based compensation |
(28 | ) | (163 | ) | |||||||
Other, net |
(3 | ) | (23 | ) | |||||||
Changes in operating assets and liabilities: |
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Accounts and financing receivables |
1,776 | (198 | ) | ||||||||
Inventory |
1,987 | 286 | |||||||||
Accounts payable |
(3,506 | ) | 554 | ||||||||
Taxes on earnings |
980 | (370 | ) | ||||||||
Restructuring |
(548 | ) | (55 | ) | |||||||
Other assets and liabilities |
(1,502 | ) | 715 | ||||||||
Net cash provided by operating activities |
6,090 | 7,952 | |||||||||
Cash flows from investing activities: |
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Investment in property, plant and equipment |
(1,658 | ) | (1,315 | ) | |||||||
Proceeds from sale of property, plant and equipment |
250 | 193 | |||||||||
Purchases of available-for-sale securities and other investments |
(55 | ) | (78 | ) | |||||||
Maturities and sales of available-for-sale securities and other investments |
103 | 191 | |||||||||
Payments made in connection with business acquisitions, net |
(348 | ) | (1,265 | ) | |||||||
Net cash used in investing activities |
(1,708 | ) | (2,274 | ) | |||||||
Cash flows from financing activities: |
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Repayment of commercial paper and notes payable, net |
(4,449 | ) | (1,898 | ) | |||||||
Issuance of debt |
4,778 | 3,018 | |||||||||
Payment of debt |
(110 | ) | (1,008 | ) | |||||||
Issuance of common stock under employee stock plans |
493 | 917 | |||||||||
Repurchase of common stock |
(2,039 | ) | (6,169 | ) | |||||||
Excess tax benefit from stock-based compensation |
28 | 163 | |||||||||
Dividends |
(385 | ) | (403 | ) | |||||||
Net cash used in financing activities |
(1,684 | ) | (5,380 | ) | |||||||
Increase in cash and cash equivalents |
2,698 | 298 | |||||||||
Cash and cash equivalents at beginning of period |
10,153 | 11,293 | |||||||||
Cash and cash equivalents at end of period |
$ | 12,851 | $ | 11,591 | |||||||
Supplemental schedule of non-cash investing and financing activities: |
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Issuance of options assumed in business acquisitions |
$ | | $ | (4 | ) | ||||||
Purchase of assets under financing arrangement |
$ | 272 | $ | | |||||||
Purchase of assets under capital lease |
$ | 41 | $ | |
The accompanying notes are an integral part of these Consolidated Condensed Financial Statements.
5
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements
(Unaudited)
Note 1: Basis of Presentation and Significant Accounting Policies
In the opinion of management, the accompanying Consolidated Condensed Financial Statements of Hewlett-Packard Company and its consolidated subsidiaries ("HP") contain all adjustments, including normal recurring adjustments, necessary to present fairly HP's financial position as of April 30, 2009, its results of operations for the three and six months ended April 30, 2009 and 2008 and its cash flows for the six months ended April 30, 2009 and 2008. The Consolidated Condensed Balance Sheet as of October 31, 2008 is derived from the October 31, 2008 audited consolidated financial statements. Certain reclassifications have been made to prior-year amounts in order to conform to the current year presentation.
The results of operations for the three and six months ended April 30, 2009 are not necessarily indicative of the results to be expected for the full year. The information included in this Quarterly Report on Form 10-Q should be read in conjunction with "Risk Factors," "Legal Proceedings," "Management's Discussion and Analysis of Financial Condition and Results of Operations," "Quantitative and Qualitative Disclosures About Market Risk" and the Consolidated Financial Statements and notes thereto included in Items 1A, 3, 7, 7A and 8, respectively, of the Hewlett-Packard Company Annual Report on Form 10-K for the fiscal year ended October 31, 2008.
The preparation of financial statements in accordance with U.S. generally accepted accounting principles ("GAAP") requires management to make estimates and assumptions that affect the amounts reported in HP's Consolidated Condensed Financial Statements and accompanying notes. Actual results could differ materially from those estimates.
HP is involved in various lawsuits, claims, investigations and proceedings that arise in the ordinary course of business. In accordance with Statement of Financial Accounting Standards ("SFAS") No. 5, "Accounting for Contingencies," HP records a provision for a liability when it believes it is both probable that a liability has been incurred and the amount can be reasonably estimated. Significant judgment is required to determine both probability and the estimated amount. HP reviews these provisions at least quarterly and adjusts these provisions to reflect the impact of negotiations, settlements, rulings, advice of legal counsel, and updated information. Litigation is inherently unpredictable and is subject to significant uncertainties, some of which are beyond HP's control.
Accounting Pronouncements
As previously reported in HP's 2008 Annual Report on Form 10-K, HP recognized the funded status of its benefit plans at October 31, 2007 in accordance with the recognition provisions of SFAS No. 158, "Employers' Accounting for Defined Benefit Pension and Other Postretirement PlansAn Amendment of Financial Accounting Standards Board ("FASB") Statements No. 87, 88, 106 and 132(R)" ("SFAS 158"). In addition to the recognition provisions, SFAS 158 also requires companies to measure the funded status of the plan as of the date of their fiscal year end, effective for fiscal years ending after December 15, 2008. HP will adopt the measurement provisions of SFAS 158 effective October 31, 2009 for the HP pension and post retirement plans. HP does not expect the adoption of the measurement provisions of SFAS 158 will have a material effect on its consolidated results of operations and financial condition.
In February 2008, the FASB issued FASB Staff Position ("FSP") SFAS 157-2, "Effective Date of FASB Statement No. 157" ("FSP SFAS 157-2"). FSP SFAS 157-2 delays the effective date of SFAS
6
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 1: Basis of Presentation and Significant Accounting Policies (Continued)
No. 157, "Fair Value Measurements" ("SFAS 157") to fiscal years beginning after November 15, 2008 for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). As a result of adoption of FSP SFAS 157-2, HP will adopt SFAS 157 for all nonfinancial assets and nonfinancial liabilities in the first quarter of fiscal 2010. Although HP will continue to evaluate the application of SFAS 157 to nonfinancial assets and nonfinancial liabilities, HP does not expect the adoption of SFAS 157 with respect to nonfinancial assets and nonfinancial liabilities will have a material impact on its consolidated results of operations and financial condition.
In December 2007, the FASB issued SFAS No. 141 (revised 2007), "Business Combinations" ("SFAS 141(R)"). SFAS 141(R) expands the definition of a business and a business combination; requires recognition of assets acquired, liabilities assumed, and contingent consideration at their fair value on the acquisition date; requires acquisition-related expenses and restructuring costs to be recognized separately from the business combination and expensed as incurred; requires in-process research and development to be capitalized at fair value as an intangible asset; and requires that changes in accounting for deferred tax asset valuation allowances and acquired income tax uncertainties after the measurement period be recognized as a component of provision for taxes. SFAS 141(R) also establishes disclosure requirements to enable the evaluation of the nature and financial effects of the business combination. SFAS 141(R) is effective for fiscal years beginning on or after December 15, 2008 and will be adopted by HP in the first quarter of fiscal 2010. HP is currently evaluating the potential impact of the adoption of SFAS 141(R) on its consolidated results of operations and financial condition, which will be largely dependent on the size and nature of the business combinations completed after the adoption of this statement. Among other potential impacts, HP currently believes that the adoption of SFAS 141(R) will result in the recognition of certain types of expenses in its results of operations that are currently capitalized pursuant to existing accounting standards.
In December 2007, the FASB issued SFAS No. 160, "Noncontrolling Interests in Consolidated Financial Statementsan amendment of Accounting Research Bulletin No. 51" ("SFAS 160"). SFAS 160 establishes accounting and reporting standards for ownership interests in subsidiaries held by parties other than the parent, the amount of consolidated net income attributable to the parent and to the noncontrolling interest, changes in a parent's ownership interest, and the valuation of retained noncontrolling equity investments when a subsidiary is deconsolidated. SFAS 160 also establishes disclosure requirements that clearly identify and distinguish between the interests of the parent and the interests of the noncontrolling owners. SFAS 160 is effective for fiscal years beginning after December 15, 2008 and will be adopted by HP in the first quarter of fiscal 2010. HP is currently evaluating the potential impact, if any, of the adoption of SFAS 160 on its consolidated results of operations and financial condition.
In May 2008, the FASB issued FSP Accounting Principles Board ("APB") 14-1 "Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement)" ("FSP APB 14-1"). FSP APB 14-1 requires the issuer of certain convertible debt instruments that may be settled in cash (or other assets) on conversion to separately account for the liability (debt) and equity (conversion option) components of the instrument in a manner that reflects the issuer's non-convertible debt borrowing rate. FSP APB 14-1 is effective for fiscal years beginning after December 15, 2008 on a retroactive basis and will be adopted by HP in the first quarter of fiscal
7
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 1: Basis of Presentation and Significant Accounting Policies (Continued)
2010. HP currently does not have any outstanding convertible debt instruments that are subject to the provisions of FSP APB 14-1. However, HP's U.S. dollar zero-coupon convertible notes that were redeemed in full in March 2008 are subject to the provisions of FSP APB 14-1. As a result, upon adoption of FSP APB 14-1 in the first quarter of fiscal 2010, HP's fiscal 2008 consolidated results of operations and financial condition will be affected on a retroactive basis. HP does not expect the adoption of FSP APB 14-1 will have a material effect on its consolidated results of operations and financial condition.
In June 2008, the FASB issued FSP Emerging Issues Task Force ("EITF") 03-6-1, "Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities" ("FSP EITF 03-6-1"). FSP EITF 03-6-1 clarifies that share-based payment awards that entitle their holders to receive nonforfeitable dividends or dividend equivalents before vesting should be considered participating securities. HP has granted and is expected to continue to grant restricted stock that contain non-forfeitable rights to dividends and such restricted stock will be considered participating securities upon adoption of FSP EITF 03-6-1. As participating securities, HP will be required to include these instruments in the calculation of HP's basic earnings per share ("EPS"), and it will need to calculate basic EPS using the "two-class method." Restricted stock is currently included in HP's dilutive EPS calculation using the treasury stock method. The two-class method of computing EPS is an earnings allocation formula that determines EPS for each class of common stock and participating securities according to dividends declared (or accumulated) and participation rights in undistributed earnings. FSP EITF 03-6-1 is effective for fiscal years beginning after December 15, 2008 on a retrospective basis and will be adopted by HP in the first quarter of fiscal 2010. HP does not expect the adoption of FSP EITF 03-6-1 will have a material effect on its calculation of Basic EPS.
In November 2008, the FASB ratified EITF Issue No. 08-7, "Accounting for Defensive Intangible Assets" ("EITF 08-7"). EITF 08-7 applies to defensive intangible assets, which are acquired intangible assets that the acquirer does not intend to actively use but intends to hold to prevent its competitors from obtaining access to them. As these assets are separately identifiable, EITF 08-7 requires an acquiring entity to account for defensive intangible assets as a separate unit of accounting. Defensive intangible assets must be recognized initially at fair value in accordance with SFAS 141(R) and SFAS 157 and be amortized over the benefit period. EITF 08-7 is effective for defensive intangible assets acquired in fiscal years beginning on or after December 15, 2008 and will be adopted by HP in the first quarter of fiscal 2010. HP is currently evaluating the potential impact, if any, of the adoption of EITF 08-7 on its consolidated results of operations and financial condition.
In December 2008, the FASB issued FSP SFAS 132(R)-1, "Employer's Disclosures about Postretirement Benefit Plan Assets" ("FSP SFAS 132(R)-1"). FSP SFAS 132(R)-1 requires additional disclosures about assets held in an employer's defined benefit pension or other postretirement plan. FSP SFAS 132(R)-1 is effective for fiscal years ending after December 15, 2009 and will be adopted by HP in the first quarter of fiscal 2010. HP will present the required disclosures in the prescribed format on a prospective basis upon adoption. HP does not expect the adoption of FSP SFAS 132(R)-1 will have a material effect on its consolidated results of operations and financial condition.
In April 2009, the FASB issued FSP SFAS 157-4, "Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly" ("FSP SFAS 157-4"). FSP SFAS 157-4 provides additional guidance for
8
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 1: Basis of Presentation and Significant Accounting Policies (Continued)
estimating fair value when the volume and level of activity for the asset or liability have significantly decreased. It also includes guidance on identifying circumstances that indicate a transaction is not orderly. FSP SFAS 157-4 is effective for interim and annual reporting periods ending after June 15, 2009 on a prospective basis and will be adopted by HP in the third quarter of fiscal 2009. HP does not expect the adoption of FSP SFAS 157-4 will have a material effect on its consolidated results of operations and financial condition.
In April 2009, the FASB issued FSP SFAS 115-2 and SFAS 124-2, "Recognition and Presentation of Other-Than-Temporary Impairments" ("FSP SFAS 115-2 and SFAS 124-2"). FSP SFAS 115-2 and SFAS 124-2 amends the other-than-temporary impairment guidance in U.S. GAAP for debt securities to make the guidance more operational and to improve the presentation and disclosure of other-than-temporary impairments on debt and equity securities in the financial statements. FSP SFAS 115-2 and SFAS 124-2 is effective for interim and annual reporting periods ending after June 15, 2009 and will be adopted by HP in the third quarter of fiscal 2009. HP does not expect the adoption of FSP SFAS 115-2 and SFAS 124-2 will have a material effect on its consolidated results of operations and financial condition.
In April 2009, the FASB issued FSP SFAS 107-1 and APB 28-1, "Interim Disclosures about Fair Value of Financial Instruments" ("FSP SFAS 107-1 and APB 28-1"). This FSP amends FASB Statement No. 107, "Disclosure about Fair Value of Financial Instruments," to require disclosures about fair value of financial instruments for interim reporting periods of publicly traded companies as well as in annual financial statements. This FSP also amends APB Opinion No. 28, "Interim Financial Reporting," to require disclosures in summarized financial information at interim reporting periods. FSP SFAS 107-1 and APB 28-1 is effective for interim reporting periods ending after June 15, 2009 and will be adopted by HP in the third quarter of fiscal 2009. HP does not expect the adoption of FSP SFAS 107-1 and APB 28-1 will have a material effect on its consolidated results of operations and financial condition.
In April 2009, the FASB issued FSP SFAS 141(R)-1, "Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies" ("FSP SFAS 141(R)-1"). FSP SFAS 141(R)-1 addresses application issues on initial recognition and measurement, subsequent measurement and accounting, and disclosure of assets and liabilities arising from contingencies in a business combination. FSP SFAS 141(R)-1 is effective for assets or liabilities arising from contingencies in business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008 and will be adopted by HP in the first quarter of fiscal 2010. HP is evaluating the impact the adoption of FSP SFAS 141(R)-1 will have on its consolidated results of operations and financial condition, which will be largely dependent on the size and nature of the business combinations completed after the adoption of this statement.
In May 2009, the FASB issued SFAS No. 165, "Subsequent Events" ("SFAS 165"). SFAS 165 is intended to establish general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or are available to be issued. It requires the disclosure of the date through which an entity has evaluated subsequent events and the basis for selecting that date, that is, whether that date represents the date the financial statements were issued or were available to be issued. SFAS 165 is effective for interim or annual financial periods ending after June 15, 2009 and will be adopted by HP in the third quarter of fiscal 2009. HP does not expect the
9
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 1: Basis of Presentation and Significant Accounting Policies (Continued)
adoption of SFAS 165 will have a material effect on its consolidated results of operations and financial condition.
Recently Adopted Accounting Pronouncements
During the first six months of fiscal 2009, HP adopted the following accounting standards, none of which had a material effect on its consolidated results of operations during the period or financial condition at the end of the period:
See Note 8 for additional information pertaining to SFAS 157, FSP SFAS 157-1, FSP SFAS 157-2, FSP SFAS 157-3 and SFAS 159.
See Note 9 for additional information pertaining to SFAS 161.
Note 2: Stock-Based Compensation
HP's stock-based compensation plans include incentive compensation plans and an employee stock purchase plan. Incentive compensation plans include principal option plans as well as various stock option plans assumed through acquisitions. Principal option plans include performance-based restricted units ("PRU"), stock options and restricted stock awards. HP accounts for its stock-based compensation plans under SFAS No. 123(R), "Share-Based Payment."
10
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 2: Stock-Based Compensation (Continued)
Total stock-based compensation expense for the three and six months ended April 30, 2009 and 2008 was as follows:
|
Three months ended April 30 |
Six months ended April 30 |
|||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
2009 | 2008 | 2009 | 2008 | |||||||||
|
In millions |
In millions |
|||||||||||
Cost of sales |
$ | 48 | $ | 36 | $ | 100 | $ | 72 | |||||
Research and development |
18 | 19 | 35 | 39 | |||||||||
Selling, general and administrative |
109 | 97 | 194 | 198 | |||||||||
Acquisition-related charges |
16 | | 22 | | |||||||||
Stock-based compensation expense before income taxes |
191 | 152 | 351 | 309 | |||||||||
Income tax benefit |
(59 | ) | (45 | ) | (107 | ) | (92 | ) | |||||
Total stock-based compensation expense after income taxes |
$ | 132 | $ | 107 | $ | 244 | $ | 217 | |||||
Performance-based Restricted Units
In fiscal 2008, HP implemented a program that provides for the issuance of PRUs representing hypothetical shares of HP common stock that may be issued under the Hewlett-Packard Company 2004 Stock Incentive Plan.
Under the PRU program, a target number of units are awarded at the beginning of each three-year performance period. The number of shares released at the end of the performance period will range from zero to two times the target number depending on performance during the period. The performance metrics of the PRU program are (a) annual targets based on cash flow from operations as a percentage of revenue, and (b) an overall "modifier" based on Total Shareholder Return ("TSR") relative to the S&P 500 over the three-year performance period. TSR is calculated using the quarterly average performance of the S&P 500 during the three-year performance period.
As the cash flow goals are considered performance conditions, the expense for these awards, net of estimated forfeitures, will be recorded over the three-year performance period based on the number of shares that are expected to be earned based on the achievement of the cash flow goals during the performance period.
HP estimates the fair value of a target PRU share using the Monte Carlo simulation model, as the TSR modifier contains a market condition. There were no PRUs granted during the three months
11
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 2: Stock-Based Compensation (Continued)
ended April 30, 2009 and 2008. The following weighted-average assumptions were used to determine the weighted-average fair value of the PRU awards:
|
Six months ended April 30 |
||||||
---|---|---|---|---|---|---|---|
|
2009(1) | 2008 | |||||
Weighted-average fair value of grants |
$ | 40.56 | $ | 40.21 | |||
Expected volatility(2) |
35 | % | 26 | % | |||
Risk-free interest rate |
1.34 | % | 3.13 | % | |||
Dividend yield |
0.88 | % | 0.70 | % | |||
Expected life in months |
30 | 33 |
Outstanding PRUs as of April 30, 2009 and October 31, 2008 and changes during the six months ended April 30, 2009 and twelve months ended October 31, 2008 were as follows (shares in thousands):
|
Six months ended April 30, 2009 |
Twelve months ended October 31, 2008 |
|||||
---|---|---|---|---|---|---|---|
Beginning units outstanding |
10,965 | | |||||
Granted |
13,854 | 8,783 | |||||
Change in units due to performance and market conditions |
(972 | ) | 2,492 | ||||
Forfeited |
(581 | ) | (310 | ) | |||
Ending units outstanding |
23,266 | 10,965 | |||||
Vested |
| | |||||
PRUs assigned a fair value |
11,524 | 5,292 | |||||
At April 30, 2009, there was $286 million of unrecognized pre-tax stock-based compensation expense related to PRUs with an assigned fair value, which HP expects to recognize over the remaining weighted-average period of 2.0 years.
12
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 2: Stock-Based Compensation (Continued)
Stock Options
HP estimated the weighted-average fair value of stock options using the Black-Scholes option pricing model with the following weighted-average assumptions:
|
Three months ended April 30 |
Six months ended April 30 |
|||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
2009 | 2008 | 2009 | 2008 | |||||||||
Weighted-average fair value of grants |
$ | 11.99 | $ | 14.71 | $ | 13.53 | $ | 15.83 | |||||
Implied volatility |
46 | % | 33 | % | 49 | % | 34 | % | |||||
Risk-free interest rate |
1.84 | % | 2.69 | % | 1.81 | % | 3.10 | % | |||||
Dividend yield |
1.03 | % | 0.69 | % | 0.98 | % | 0.67 | % | |||||
Expected life in months |
61 | 61 | 60 | 60 |
Option activity as of April 30, 2009 and changes during the six months ended April 30, 2009 were as follows:
|
Shares (in thousands) |
Weighted- Average Exercise Price |
Weighted- Average Remaining Contractual Term (in years) |
Aggregate Intrinsic Value (in millions) |
|||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Outstanding at October 31, 2008 |
307,728 | $ | 34 | ||||||||||
Granted and assumed through acquisitions |
1,459 | $ | 24 | ||||||||||
Exercised |
(13,935 | ) | $ | 25 | |||||||||
Forfeited/cancelled/expired |
(15,265 | ) | $ | 61 | |||||||||
Outstanding at April 30, 2009 |
279,987 | $ | 33 | 2.9 | $ | 2,079 | |||||||
Vested and expected to vest at April 30, 2009 |
278,061 | $ | 33 | 2.9 | $ | 2,074 | |||||||
Exercisable at April 30, 2009 |
251,872 | $ | 32 | 2.6 | $ | 2,008 | |||||||
The aggregate intrinsic value in the table above represents the total pre-tax intrinsic value that option holders would have received had all option holders exercised their options on April 30, 2009. The aggregate intrinsic value is the difference between HP's closing stock price on the last trading day of the second quarter of fiscal 2009 and the exercise price, multiplied by the number of in-the-money options. Total intrinsic value of options exercised for the three and six months ended April 30, 2009 was $73 million and $138 million, respectively.
At April 30, 2009, there was $296 million of unrecognized pre-tax stock-based compensation expense related to stock options, which HP expects to recognize over the remaining weighted-average period of 1.5 years.
13
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 2: Stock-Based Compensation (Continued)
Restricted Stock Awards
Non-vested restricted stock awards as of April 30, 2009 and changes during the six months ended April 30, 2009 were as follows:
|
Shares (in thousands) |
Weighted- Average Grant Date Fair Value |
|||||
---|---|---|---|---|---|---|---|
Non-vested at October 31, 2008 |
12,930 | $ | 44 | ||||
Granted |
552 | $ | 34 | ||||
Vested |
(4,497 | ) | $ | 44 | |||
Forfeited |
(562 | ) | $ | 40 | |||
Non-vested at April 30, 2009 |
8,423 | $ | 44 | ||||
At April 30, 2009, there was $187 million of unrecognized pre-tax stock-based compensation expense related to non-vested restricted stock awards, which HP expects to recognize over the remaining weighted-average period of 1.1 years.
Changes to the Employee Stock Purchase Plan
HP sponsors the Hewlett-Packard Company 2000 Employee Stock Purchase Plan, also known as the Share Ownership Plan (the "ESPP"), pursuant to which eligible employees may contribute up to 10% of base compensation, subject to certain income limits, to purchase shares of HP's common stock. Employees purchase stock pursuant to the ESPP semi-annually at a price equal to 85% of the fair market value on the purchase date. HP recognized expense based on a 15% discount from fair market value for purchases made under the ESPP on or before April 30, 2009. Effective May 1, 2009, HP discontinued offering the 15% discount.
Note 3: Net Earnings Per Share
HP calculates basic earnings per share using net earnings and the weighted-average number of shares outstanding during the reporting period. Diluted EPS includes any dilutive effect of outstanding restricted stock, stock options, restricted stock units and convertible debt.
14
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 3: Net Earnings Per Share (Continued)
The reconciliation of the numerators and denominators of the basic and diluted EPS calculations was as follows:
|
Three months ended April 30 |
Six months ended April 30 |
|||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
2009 | 2008 | 2009 | 2008 | |||||||||||
|
In millions, except per share amounts |
||||||||||||||
Numerator: |
|||||||||||||||
Net earnings |
$ | 1,716 | $ | 2,057 | $ | 3,570 | $ | 4,190 | |||||||
Adjustment for interest expense on zero-coupon subordinated convertible notes, net of taxes |
| 1 | | 3 | |||||||||||
Net earnings, adjusted |
$ | 1,716 | $ | 2,058 | $ | 3,570 | $ | 4,193 | |||||||
Denominator: |
|||||||||||||||
Weighted-average shares used to compute basic EPS |
2,394 | 2,473 | 2,402 | 2,516 | |||||||||||
Effect of dilutive securities: |
|||||||||||||||
Dilution from employee stock plans |
44 | 79 | 46 | 81 | |||||||||||
Zero-coupon subordinated convertible notes |
| 5 | | 6 | |||||||||||
Dilutive potential common shares |
44 | 84 | 46 | 87 | |||||||||||
Weighted-average shares used to compute diluted EPS |
2,438 | 2,557 | 2,448 | 2,603 | |||||||||||
Net earnings per share: |
|||||||||||||||
Basic |
$ | 0.72 | $ | 0.83 | $ | 1.49 | $ | 1.67 | |||||||
Diluted |
$ | 0.70 | $ | 0.80 | $ | 1.46 | $ | 1.61 |
HP excludes options with exercise prices that are greater than the average market price from the calculation of diluted EPS because their effect would be anti-dilutive. For the three and six months ended April 30, 2009, HP excluded 110 million shares and 107 million shares, respectively, from its diluted EPS calculation compared to 57 million shares and 55 million shares, respectively, in the prior-year comparable periods. Also, in accordance with SFAS 123R, HP excluded from the calculation of diluted EPS options to purchase an additional 1 million shares in the second quarter and the first half of fiscal 2009 compared to an additional 29 million shares in the prior-year comparable periods whose combined exercise price, unamortized fair value and excess tax benefits were greater in each of those periods than the average market price for HP's common stock because their effect would be anti-dilutive.
As disclosed in Note 2, during the six months ended April 30, 2009 and April 30, 2008, HP granted PRU awards representing at target approximately 14 million shares and 9 million shares, respectively. HP includes the shares underlying PRU awards in the calculation of diluted EPS when they become contingently issuable per SFAS No. 128, "Earnings per Share," and excludes such shares when they are not contingently issuable. Accordingly, for the three and six months ended April 30, 2009, HP has included 3 million shares and 2 million shares, respectively, underlying the PRU awards granted in fiscal 2008 when calculating diluted EPS as those shares became contingently issuable upon the satisfaction of the cash flow from operations condition with respect to the first year of the performance period applicable to those awards. HP has excluded all other shares underlying the fiscal
15
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 3: Net Earnings Per Share (Continued)
2008 awards and all shares underlying the fiscal 2009 awards when calculating diluted EPS as those shares are not contingently issuable.
In October and November 1997, HP issued U.S. dollar zero-coupon subordinated convertible notes due 2017 (the "LYONs"), the outstanding principal amount of which was redeemed in March 2008. The LYONs were convertible at the option of the holders at any time prior to maturity, unless previously redeemed or otherwise purchased. For purposes of calculating diluted earnings per share as of April 30, 2008, the interest expense (net of tax) associated with the LYONs was added back to net earnings, and the shares issuable upon conversion of the LYONs were included in the weighted-average shares used to compute diluted earnings per share for periods that the LYONs were outstanding.
Note 4: Balance Sheet Details
Balance sheet details were as follows:
Accounts and Financing Receivables
|
April 30, 2009 |
October 31, 2008 |
|||||
---|---|---|---|---|---|---|---|
|
In millions |
||||||
Accounts receivable |
$ | 15,308 | $ | 17,481 | |||
Allowance for doubtful accounts |
(642 | ) | (553 | ) | |||
|
$ | 14,666 | $ | 16,928 | |||
Financing receivables |
$ | 2,395 | $ | 2,355 | |||
Allowance for doubtful accounts |
(43 | ) | (41 | ) | |||
|
$ | 2,352 | $ | 2,314 | |||
HP has revolving trade receivables-based facilities permitting it to sell certain trade receivables to third parties on a non-recourse basis. The aggregate maximum capacity under these programs was $537 million as of April 30, 2009. HP sold $931 million of trade receivables during the first half of fiscal 2009. As of April 30, 2009, HP had $262 million available under these programs.
Inventory
|
April 30, 2009 |
October 31, 2008 |
|||||
---|---|---|---|---|---|---|---|
|
In millions |
||||||
Finished goods |
$ | 3,730 | $ | 5,219 | |||
Purchased parts and fabricated assemblies |
2,016 | 2,660 | |||||
|
$ | 5,746 | $ | 7,879 | |||
16
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 4: Balance Sheet Details (Continued)
Property, Plant and Equipment
|
April 30, 2009 |
October 31, 2008 |
|||||
---|---|---|---|---|---|---|---|
|
In millions |
||||||
Land |
$ | 493 | $ | 526 | |||
Buildings and leasehold improvements |
7,470 | 7,238 | |||||
Machinery and equipment |
12,019 | 11,121 | |||||
|
19,982 | 18,885 | |||||
Accumulated Depreciation |
(9,175 | ) | (8,047 | ) | |||
|
$ | 10,807 | $ | 10,838 | |||
Note 5: Acquisitions
In the first six months of fiscal 2009, HP completed the acquisition of Lefthand Networks, Inc., a leading provider of storage virtualization and solutions for approximately $347 million including direct transaction costs and the assumption of certain liabilities in connection with the transaction. HP recorded $273 million to goodwill, $95 million to purchased intangibles and $6 million to in-process research and development ("IPR&D") charges related to this acquisition. Lefthand Networks is being integrated into HP's Enterprise Storage and Servers segment within the Technology Solutions Group. HP does not expect goodwill recorded with respect to this acquisition to be deductible for tax purposes. HP has not presented pro forma results of operations because this acquisition is not material to HP's consolidated financial statements.
Acquisition of Electronic Data Systems Corporation ("EDS")
As previously disclosed in its Consolidated Financial Statements for the fiscal year ended October 31, 2008, on August 26, 2008, HP completed its acquisition of EDS. The purchase price for EDS was $13.0 billion, comprised of $12.7 billion cash paid for outstanding common stock, $328 million for the estimated fair value of stock options and restricted stock units assumed, and $36 million for direct transaction costs. Of the total purchase price, a preliminary estimate of $10.5 billion has been allocated to goodwill, $4.5 billion has been allocated to amortizable intangible assets acquired and $2.0 billion has been allocated to net tangible liabilities assumed in connection with the acquisition. HP also expensed $30 million for IPR&D charges.
The purchase price allocation as of the date of the acquisition reflects various preliminary estimates and analyses, including preliminary work performed by third-party valuation specialists, and is subject to change during the purchase price allocation period (generally one year from the acquisition date) as valuations are finalized.
HP has evaluated and continues to evaluate certain pre-acquisition contingencies related to EDS that existed as of the acquisition date. Additional information, which existed as of the acquisition date but was at that time unknown to HP, may become known to HP during the remainder of the purchase price allocation period, and may result in goodwill adjustments. If these pre-acquisition contingencies
17
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 5: Acquisitions (Continued)
become probable in nature and estimable after the end of the purchase price allocation period, amounts will be recorded for such matters in HP's results of operations.
Pro forma results for EDS acquisition
The following table presents the unaudited results of HP (including EDS) for the three and six months ended April 30, 2009 and the unaudited pro forma results for the three and six months ended April 30, 2008. The unaudited pro forma financial information for the three and six months ended April 30, 2008 combines the results of operations of HP and EDS as though the companies had been combined as of the beginning of fiscal 2008. The pro forma financial information is presented for informational purposes only and is not indicative of the results of operations that would have been achieved if the acquisition and related borrowings had taken place at the beginning of fiscal 2008. The unaudited pro forma results presented include amortization charges for acquired intangible assets, eliminations of intercompany transactions, restructuring charges, IPR&D charges, adjustments for incremental stock-based compensation expense related to the unearned portion of EDS stock options and restricted stock units assumed, adjustments for depreciation expense for property, plant and equipment, adjustments to interest expense and related tax effects.
|
Three months ended April 30 |
Six months ended April 30 |
|||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|
In millions, except per share data
|
2009 | 2008 | 2009 | 2008 | |||||||||
|
Unaudited |
Unaudited |
|||||||||||
Net revenue |
$ | 27,351 | $ | 33,613 | $ | 56,151 | $ | 67,361 | |||||
Net earnings |
$ | 1,716 | $ | 1,918 | $ | 3,570 | $ | 3,439 | |||||
Basic net earnings per share |
$ | 0.72 | $ | 0.78 | $ | 1.49 | $ | 1.37 | |||||
Diluted net earnings per share |
$ | 0.70 | $ | 0.75 | $ | 1.46 | $ | 1.32 |
Note 6: Goodwill and Purchased Intangible Assets
Goodwill
Goodwill allocated to HP's business segments as of April 30, 2009 and changes in the carrying amount of goodwill for the six months ended April 30, 2009 are as follows:
|
Services | Enterprise Storage and Servers |
HP Software |
Personal Systems Group |
Imaging and Printing Group |
HP Financial Services |
Corporate Investments |
Total | |||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
In millions |
||||||||||||||||||||||||
Balance at October 31, 2008 |
$ | 16,284 | $ | 4,745 | $ | 6,162 | $ | 2,493 | $ | 2,463 | $ | 144 | $ | 44 | $ | 32,335 | |||||||||
Goodwill acquired during the period |
| 273 | | | | | | 273 | |||||||||||||||||
Goodwill adjustments |
375 | (1 | ) | (5 | ) | | (1 | ) | | | 368 | ||||||||||||||
Balance at April 30, 2009 |
$ | 16,659 | $ | 5,017 | $ | 6,157 | $ | 2,493 | $ | 2,462 | $ | 144 | $ | 44 | $ | 32,976 | |||||||||
During the six months ended April 30, 2009, HP recorded adjustments of approximately $545 million to the estimated fair values of EDS's intangible assets and net liabilities acquired resulting
18
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 6: Goodwill and Purchased Intangible Assets (Continued)
in an increase to EDS's goodwill, which is allocated to the Services segment. These changes in the estimated fair values relate primarily to restructuring liabilities, fixed assets and net deferred tax liabilities. This adjustment was partially offset by a goodwill reduction of approximately $170 million as a result of currency translation related to EDS's foreign subsidiaries whose functional currency is not the U.S. dollar.
Purchased Intangible Assets
HP's purchased intangible assets associated with completed acquisitions are composed of:
|
April 30, 2009 | October 31, 2008 | |||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
Gross | Accumulated Amortization |
Net | Gross | Accumulated Amortization |
Net | |||||||||||||
|
In millions |
||||||||||||||||||
Customer contracts, customer lists and distribution agreements |
$ | 6,527 | $ | (2,599 | ) | $ | 3,928 | $ | 6,530 | $ | (2,176 | ) | $ | 4,354 | |||||
Developed and core technology and patents |
4,167 | (2,478 | ) | 1,689 | 4,189 | (2,147 | ) | 2,042 | |||||||||||
Product trademarks |
244 | (147 | ) | 97 | 253 | (109 | ) | 144 | |||||||||||
Total amortizable purchased intangible assets |
10,938 | (5,224 | ) | 5,714 | 10,972 | (4,432 | ) | 6,540 | |||||||||||
Compaq trade name |
1,422 | | 1,422 | 1,422 | | 1,422 | |||||||||||||
Total purchased intangible assets |
$ | 12,360 | $ | (5,224 | ) | $ | 7,136 | $ | 12,394 | $ | (4,432 | ) | $ | 7,962 | |||||
For the six months ended April 30, 2009, HP recorded a reduction of $69 million to the estimated fair value of EDS's intangible assets acquired. In addition, HP also recorded a reduction of $60 million to purchased intangibles as a result of currency translation related to EDS's foreign subsidiaries whose functional currency is not the U.S. dollar.
Estimated future amortization expense related to finite lived purchased intangible assets at April 30, 2009 is as follows:
Fiscal year:
|
In millions | |||
---|---|---|---|---|
2009 (remaining 6 months) |
$ | 713 | ||
2010 |
1,320 | |||
2011 |
1,019 | |||
2012 |
819 | |||
2013 |
681 | |||
Thereafter |
1,162 | |||
Total |
$ | 5,714 | ||
19
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 7: Restructuring Charges
Fiscal 2008 Restructuring Plan
In connection with the acquisition of EDS on August 26, 2008, HP's management approved and initiated a restructuring plan to streamline the combined company's services business and to better align the structure and efficiency of that business with HP's operating model. The restructuring plan is expected to be implemented over four years from the acquisition date and includes changes to the combined company's workforce as well as changes to corporate overhead functions, such as real estate, IT and procurement.
In the fourth quarter of fiscal 2008, HP recorded a liability of approximately $1.8 billion related to this restructuring plan. Approximately $1.5 billion of the liability was associated with pre-acquisition EDS and was recorded to goodwill, and the remaining approximately $0.3 billion was associated with HP and was recorded as a restructuring charge. The liability consisted mainly of severance costs to eliminate approximately 25,000 positions, costs to vacate duplicative facilities and costs associated with early termination of certain contractual obligations. For the three months and six months ended April 30, 2009, HP recorded a net charge of $94 million and $243 million, respectively, due primarily to adjustments for severance and facilities costs. As of April 30, 2009, approximately 12,800 positions have been eliminated.
HP expects the majority of the restructuring costs to be paid out by the second quarter of fiscal 2010. In future quarters, HP expects to record an additional charge of approximately $551 million related to severance costs and the cost to vacate duplicative facilities.
All restructuring costs associated with pre-acquisition EDS are reflected in the purchase price of EDS in accordance with EITF 95-3, "Recognition of Liabilities in Connection with a Purchase Business Combination." These costs are subject to change based on the actual costs incurred. Changes to these estimates could increase or decrease the amount of the purchase price allocated to goodwill.
Prior Fiscal Year Plans
Restructuring plans initiated prior to 2008 are substantially complete and HP expects to record only minor revisions to these plans as necessary.
20
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 7: Restructuring Charges (Continued)
Summary of Restructuring Plans
The adjustments to the accrued restructuring expenses related to all of HP's restructuring plans described above for the three and six months ended April 30, 2009 were as follows:
|
|
Three months ended April 30, 2009 charges (reversals) |
Six months ended April 30, 2009 charges (reversals) |
|
|
|
|
As of April 30, 2009 | |||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
|
|
|
Non-cash settlements and other adjustments |
|
||||||||||||||||||||||||
|
Balance, October 31, 2008 |
Goodwill adjustments |
Cash payments |
Balance, April 30, 2009 |
Total costs and adjustments to date |
Total expected costs and adjustments |
|||||||||||||||||||||||
|
In millions |
|
|||||||||||||||||||||||||||
Fiscal 2008 HP/EDS Plan: |
|||||||||||||||||||||||||||||
Severance |
$ | 1,444 | $ | 82 | $ | 231 | $ | (6 | ) | $ | (518 | ) | $ | 4 | $ | 1,155 | $ | 1,760 | $ | 1,818 | |||||||||
Infrastructure |
248 | 12 | 12 | 155 | (13 | ) | | 402 | 420 | 913 | |||||||||||||||||||
Total severance and other restructuring activities |
$ | 1,692 | $ | 94 | $ | 243 | $ | 149 | $ | (531 | ) | $ | 4 | $ | 1,557 | $ | 2,180 | $ | 2,731 | ||||||||||
Prior fiscal year plans |
77 | | (3 | ) | (2 | ) | (17 | ) | | 55 | 6,343 | 6,343 | |||||||||||||||||
Total restructuring plans |
$ | 1,769 | $ | 94 | $ | 240 | $ | 147 | $ | (548 | ) | $ | 4 | $ | 1,612 | $ | 8,523 | $ | 9,074 | ||||||||||
At April 30, 2009 and October 31, 2008, HP included the long-term portion of the restructuring liability of $426 million and $670 million, respectively, in Other liabilities, and the short-term portion in Accrued restructuring in the accompanying Consolidated Condensed Balance Sheets.
Workforce Rebalancing
As part of HP's ongoing business operations, HP incurred workforce rebalancing charges for severance and related costs within certain business segments during the first six months of fiscal 2009. Workforce rebalancing activities are considered part of normal operations as HP continues to optimize its cost structure. Workforce rebalancing costs are included in HP's business segment results, and HP expects to incur additional workforce rebalancing costs in the future.
Note 8: Fair Value
Effective November 1, 2008, HP adopted the effective portions of SFAS 157 as referenced in Note 1. Pursuant to the provisions of SFAS 157-2, HP will not apply the provisions of SFAS 157 until the first quarter of fiscal 2010 for the following major categories of nonfinancial assets and liabilities from the Consolidated Condensed Balance Sheet: Property, plant and equipment, Goodwill, Purchased intangible assets and the Asset retirement obligations within Other accrued liabilities and Other liabilities. The adoption did not have a material impact on HP's financial statements and did not result in any changes to the opening balance of retained earnings as of November 1, 2008.
21
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 8: Fair Value (Continued)
SFAS 157 establishes a new framework for measuring fair value and expands related disclosures. The SFAS 157 framework requires fair value to be determined based on the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants.
The valuation techniques required by SFAS 157 are based upon observable and unobservable inputs. Observable or market inputs reflect market data obtained from independent sources, while unobservable inputs reflect HP's assumptions about market participant assumptions based on best information available. Observable inputs are the preferred source of values. In accordance with SFAS 157, these two types of inputs create the following fair value hierarchy:
Level 1Quoted prices (unadjusted) for identical instruments in active markets.
Level 2Quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
Level 3Prices or valuations that require management inputs that are both significant to the fair value measurement and unobservable.
The following section describes the valuation methodologies HP uses to measure its financial assets and liabilities at fair value.
Cash Equivalents: HP holds money market funds investing mainly in treasury bills, which are classified under level 1. HP also invests in time deposits, commercial paper and treasury bills, which are classified under level 2.
Investments: HP holds time deposits, corporate and foreign government notes and bonds, asset-backed securities, and common stock and equivalents. In general, and where applicable, HP uses quoted prices in active markets for identical assets or liabilities to determine fair value. If quoted prices in active markets for identical assets or liabilities are not available to determine fair value, then HP uses quoted prices for similar assets and liabilities or inputs that are observable either directly or indirectly. If quoted prices for identical or similar assets are not available, HP uses internally developed valuation models, whose inputs include bid prices, and third party valuations utilizing underlying assets assumptions.
Derivative Instruments: As discussed in Note 9, HP mainly holds non-speculative forwards, swaps and options to hedge certain foreign currency and interest rate exposures. HP uses quoted prices in an active market for identical derivative assets and liabilities that are traded on exchanges and, when active market quotes are not available, HP uses industry standard valuation models, such as the Black-Scholes model. Where applicable, these models project future cash flows and discount the future amounts to a present value using market-based observable inputs including interest rate curves, credit risk, foreign exchange rates, and forward and spot prices for currencies. In certain cases, market-based observable inputs are not available and, in those cases, HP uses management judgment to develop assumptions which are used to determine fair value.
22
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 8: Fair Value (Continued)
Other Liabilities: HP has a liability to company executives as part of the executive deferred compensation plan. The liability is linked to a group of mutual funds and indexes and is classified under level 1.
The following table presents HP's assets and liabilities as of April 30, 2009 that are measured at fair value on a recurring basis:
|
Fair Value Measured Using | |
||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
Total Balance |
|||||||||||||
|
Level 1 | Level 2 | Level 3 | |||||||||||
|
In millions |
|||||||||||||
Assets |
||||||||||||||
Cash Equivalents |
$ | 373 | $ | 9,344 | $ | | $ | 9,717 | ||||||
Investment Securities |
19 | 377 | 49 | 445 | ||||||||||
Derivatives |
| 1,282 | | 1,282 | ||||||||||
Total |
$ | 392 | $ | 11,003 | $ | 49 | $ | 11,444 | ||||||
Liabilities |
||||||||||||||
Derivatives |
$ | | $ | 520 | $ | | $ | 520 | ||||||
Other Liabilities |
307 | | | 307 | ||||||||||
Total |
$ | 307 | $ | 520 | $ | | $ | 827 | ||||||
The following tables present the changes in level 3 instruments for the three and six months ended April 30, 2009 that are measured on a recurring basis. The majority of the level 3 balances consist of
23
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 8: Fair Value (Continued)
investment securities classified as available-for-sale with changes in fair value recorded in other comprehensive income ("OCI").
|
Fair Value Measured Using Significant Unobservable Inputs (Level 3) |
|||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|
Three Months Ended April 30, 2009
|
Investment Securities |
Derivative Instruments |
Total | |||||||||
|
In millions |
|||||||||||
Beginning balance at February 1, 2009 |
$ | 50 | $ | 1 | $ | 51 | ||||||
Total losses (realized/unrealized): |
||||||||||||
Included in earnings(1) |
(1 | ) | | (1 | ) | |||||||
Included in other comprehensive income |
| (1 | ) | (1 | ) | |||||||
Purchases, issuances, and settlements |
| | | |||||||||
Ending balance at April 30, 2009 |
$ | 49 | $ | | $ | 49 | ||||||
The amount of total losses for the period included in earnings attributable to the change in unrealized losses relating to assets still held as of April 30, 2009 |
$ | | $ | | $ | | ||||||
Six Months Ended April 30, 2009 |
||||||||||||
Beginning balance at November 1, 2008 |
$ |
64 |
$ |
(1 |
) |
$ |
63 |
|||||
Total losses (realized/unrealized): |
||||||||||||
Included in earnings(1) |
(3 | ) | | (3 | ) | |||||||
Included in other comprehensive income |
(11 | ) | | (11 | ) | |||||||
Purchases, issuances, and settlements |
(1 | ) | 1 | | ||||||||
Ending balance at April 30, 2009 |
$ | 49 | $ | | $ | 49 | ||||||
The amount of total losses for the period included in earnings attributable to the change in unrealized losses relating to assets still held as of April 30, 2009 |
$ | (2 | ) | $ | | $ | (2 | ) | ||||
HP measures certain assets including cost and equity method investments at fair value on a nonrecurring basis. These assets are recognized at fair value when they are deemed to be other-than-temporarily impaired. As of April 30, 2009, such assets with a total fair value of $1 million were included in the level 3 hierarchy. In the three and six months ended April 30, 2009, HP recorded an impairment charge of $29 million and $34 million, respectively. Of these amounts, $28 million and $33 million, respectively, were charged to goodwill.
HP reviews the carrying values of the investments when events and circumstances warrant and considers all available evidence in evaluating when declines in fair value are other-than-temporary. The fair values of the investments are determined based on valuation techniques using the best information available, which may include quoted market prices, market comparables, and discounted cash flow
24
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 8: Fair Value (Continued)
projections. An impairment charge is recorded when the cost of the investment exceeds its fair value and is determined to be other-than-temporary.
Effective November 1, 2008, HP also adopted SFAS 159, which allows an entity to elect to measure certain financial instruments at fair value on a contract-by-contract basis. Subsequent to the election, any unrealized gains and losses from the fair value measurement of the financial instruments will be recognized in earnings. As of April 30, 2009, HP did not elect such option for any eligible financial instruments.
Note 9: Derivative Financial Instruments
On February 1, 2009, HP adopted SFAS 161 as referenced in Note 1. The adoption of SFAS 161 requires additional disclosures about HP's objectives and strategies for using derivative instruments, the accounting for the derivative instruments and related hedged items under SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"), and the effect of derivative instruments and related hedged items on the financial statements. The adoption had no financial impact on the consolidated condensed financial statements.
HP is a global company that is exposed to foreign currency exchange rate fluctuations and interest rate changes in the normal course of its business. As part of its risk management strategy, HP uses derivative instruments, primarily forward contracts, option contracts, interest rate swaps, and total return swaps, to hedge certain foreign currency, interest rate and, to a lesser extent, equity exposures. HP's objective is to offset gains and losses resulting from these exposures with losses and gains on the derivative contracts used to hedge them, thereby reducing volatility of earnings or protecting fair values of assets and liabilities. HP does not have any leveraged derivatives. HP does not use derivative contracts for speculative purposes. HP applies hedge accounting based upon the criteria established by SFAS 133, whereby HP designates its derivatives as fair value hedges, cash flow hedges or hedges of the foreign currency exposure of a net investment in a foreign operation ("net investment hedges"). Additionally, for derivatives not designated as hedging instruments under SFAS 133, HP categorizes those economic hedges as other derivatives. HP recognizes all derivatives in the Consolidated Condensed Balance Sheets at fair value and reports them in Other current assets, Long-term financing receivables and other assets, Other accrued liabilities, or Other liabilities. HP classifies cash flows from the derivative programs as operating activities in the Consolidated Condensed Statement of Cash Flows.
As a result of the use of derivative instruments, HP is exposed to the risk that counterparties to derivative contracts will fail to meet their contractual obligations. To mitigate the counterparty credit risk, HP has a policy of only entering into contracts with carefully selected major financial institutions based upon their credit ratings and other factors, and HP maintains dollar and term limits that correspond to each institution's credit rating. HP's established policies and procedures for mitigating credit risk on principal transactions and short-term cash include reviewing and establishing limits for credit exposure and continually assessing the creditworthiness of counterparties. Master agreements with counterparties include master netting arrangements as further mitigation of credit exposure to counterparties. These arrangements permit HP to net amounts due from HP to a counterparty with amounts due to HP from a counterparty, which reduces the maximum loss from credit risk in the event of counterparty default.
25
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 9: Derivative Financial Instruments (Continued)
Certain of HP's derivative instruments contain credit-risk-related contingent features, such as a provision whereby the counterparties to the derivative instruments could request collateralization on derivative instruments in net liability positions if HP's credit rating falls below investment grade. As of April 30, 2009, HP was not required to post any collateral and HP did not have any derivative instruments with credit-risk-related contingent features that were in a significant net liability position.
Fair Value Hedges
HP enters into fair value hedges to reduce the exposure of its debt portfolio to interest rate risk. HP issues long-term debt in U.S. dollars based on market conditions at the time of financing. HP uses interest rate swaps to modify the market risk exposures in connection with the debt to achieve primarily U.S. dollar LIBOR-based floating interest expense. The swap transactions generally involve principal and interest obligations for U.S. dollar-denominated amounts. Alternatively, HP may choose not to swap fixed for floating interest payments or may terminate a previously executed swap if it believes a larger proportion of fixed-rate debt would be beneficial. When investing in fixed-rate instruments, HP may enter into interest rate swaps that convert the fixed interest returns into variable interest returns and would classify these swaps as fair value hedges. For derivative instruments that are designated and qualify as fair value hedges, HP recognizes the gain or loss on the derivative instrument, as well as the offsetting loss or gain on the hedged item, in Interest and other, net in the Consolidated Condensed Statements of Earnings in the current period.
Cash Flow Hedges
HP uses a combination of forward contracts and options designated as cash flow hedges to protect against the foreign currency exchange rate risks inherent in its forecasted net revenue and, to a lesser extent, cost of sales, operating expense, and intercompany lease loan denominated in currencies other than the U.S. dollar. HP's foreign currency cash flow hedges mature generally within six months. However, certain leasing revenue-related forward contracts and intercompany lease loan forward contracts extend for the duration of the lease term, which can be up to five years. For derivative instruments that are designated and qualify as cash flow hedges, HP initially records the effective portion of the gain or loss on the derivative instrument in accumulated other comprehensive loss as a separate component of stockholders' equity and subsequently reclassifies these amounts into earnings in the period during which the hedged transaction is recognized in earnings. HP reports the effective portion of cash flow hedges in the same financial statement line item as the changes in value of the hedged item. During the six months ended April 30, 2009, HP did not discontinue any cash flow hedge for which it was probable that a forecasted transaction would not occur.
Net Investment Hedges
HP uses forward contracts designated as net investment hedges to hedge net investments in certain foreign subsidiaries whose functional currency is the local currency. For derivative instruments that are designated as net investment hedges, HP records the effective portion of the gain or loss on the derivative instrument together with changes in the hedged items in cumulative translation adjustment as a separate component of stockholders' equity.
26
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 9: Derivative Financial Instruments (Continued)
Other Derivatives
Other derivatives not designated as hedging instruments under SFAS 133 consist primarily of forward contracts HP uses to hedge foreign currency balance sheet exposures. HP also uses total return swaps, based on the equity and fixed income indices, to hedge its executive deferred compensation plan liability. For derivative instruments not designated as hedging instruments under SFAS 133, HP recognizes changes in the fair values in earnings in the period of change. HP recognizes the gain or loss on foreign currency forward contracts used to hedge balance sheet exposures in Interest and other, net in the same period as the remeasurement gain and loss of the related foreign currency denominated assets and liabilities. HP recognizes the gain or loss on the interest rate and total return swaps in Interest and other, net in the same period as the gain or loss from the change in market value of the executive deferred compensation plan liability.
Hedge Effectiveness
For interest rate swaps designated as fair value hedges, HP measures effectiveness by offsetting the change in fair value of the hedged debt with the change in fair value of the derivative. For foreign currency options and forward contracts designated as cash flow or net investment hedges, HP measures effectiveness by comparing the cumulative change in the hedge contract with the cumulative change in the hedged item, both of which are based on forward rates. HP recognizes any ineffective portion of the hedge, as well as amounts not included in the assessment of effectiveness, in the Consolidated Condensed Statements of Earnings. As of April 30, 2009, the portion of hedging instruments' gain or loss excluded from the assessment of effectiveness was not material for fair value, cash flow or net investment hedges. Hedge ineffectiveness for fair value, cash flow and net investment hedges was not material for the three and six months ended April 30, 2009.
Fair Value of Derivative Instruments in the Consolidated Condensed Balance Sheet
As discussed in Note 8, HP estimates the fair values of derivatives based on quoted market prices or pricing models using current market rates and records all derivatives on the balance sheet at fair
27
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 9: Derivative Financial Instruments (Continued)
value. The gross notional and fair value of derivative financial instruments in the Consolidated Condensed Balance Sheet as of April 30, 2009 were as follows:
|
As of April 30, 2009 | ||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
Gross Notional(1) |
Other Current Assets |
Long-term Financing Receivables and Other Assets |
Other Accrued Liabilities |
Other Liabilities |
||||||||||||
|
In millions |
||||||||||||||||
Derivatives designated as hedging instruments under SFAS 133 |
|||||||||||||||||
Fair value hedges: |
|||||||||||||||||
Interest rate contracts |
$ | 6,575 | $ | | $ | 373 | $ | | $ | 15 | |||||||
Cash flow hedges: |
|||||||||||||||||
Foreign exchange contracts |
12,782 | 382 | 63 | 169 | 4 | ||||||||||||
Net investment hedges: |
|||||||||||||||||
Foreign exchange contracts |
1,145 | 47 | 36 | 17 | 6 | ||||||||||||
Total derivatives designated as hedging instruments under SFAS 133 |
$ | 20,502 | $ | 429 | $ | 472 | $ | 186 | $ | 25 | |||||||
Derivatives not designated as hedging instruments under SFAS 133 |
|||||||||||||||||
Foreign exchange contracts |
$ | 18,422 | $ | 242 | $ | 88 | $ | 232 | $ | 26 | |||||||
Interest rate contracts(2) |
2,203 | | 42 | | 51 | ||||||||||||
Total return contracts |
200 | 9 | | | | ||||||||||||
Total derivatives not designated as hedging instruments under SFAS 133 |
$ | 20,825 | $ | 251 | $ | 130 | $ | 232 | $ | 77 | |||||||
Total derivatives |
$ | 41,327 | $ | 680 | $ | 602 | $ | 418 | $ | 102 | |||||||
Effect of Derivative Instruments on the Consolidated Condensed Statements of Earnings
The before-tax effect of a derivative instrument and related hedged item in a fair value hedging relationship for the three and six months ended April 30, 2009 was as follows:
|
Gain (Loss) Recognized in Income on Derivative and Related Hedged Item | ||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
Derivative Instrument
|
Location | Three months ended April 30, 2009 |
Six months ended April 30, 2009 |
Hedged Item
|
Location | Three months ended April 30, 2009 |
Six months ended April 30, 2009 |
||||||||||||
|
|
In millions |
|
|
In millions |
||||||||||||||
Interest rate contracts |
Interest and other, net | $ | (67 | ) | $ | 249 | Fixed-rate Debt | Interest and other, net | $ | 57 | $ | (252 | ) |
28
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 9: Derivative Financial Instruments (Continued)
The before-tax effect of derivative instruments in cash flow and net investment hedging relationships for the three and six months ended April 30, 2009 was as follows:
|
Gain (Loss) Recognized in OCI on Derivative (Effective Portion) |
Gain (Loss) Reclassified from Accumulated OCI Into Income (Effective Portion) |
Gain Recognized in Income on Derivative(1) (Ineffective portion and Amount Excluded from Effectiveness Testing) |
||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
Three months ended April 30, 2009 |
Six months ended April 30, 2009 |
Location
|
Three months ended April 30, 2009 |
Six months ended April 30, 2009 |
Location
|
Three months ended April 30, 2009 |
Six months ended April 30, 2009 |
|||||||||||||||||
|
In millions |
|
In millions |
|
In millions |
||||||||||||||||||||
Cash flow hedges: |
|||||||||||||||||||||||||
Foreign exchange contracts |
$ | (223 | ) | $ | (131 | ) | Net revenue |
$ | 354 | $ | 875 | Net revenue |
$ | | $ | | |||||||||
Foreign exchange contracts |
(80 | ) | 34 | Cost of products |
76 | 81 | Cost of products |
| | ||||||||||||||||
Foreign exchange contracts |
(1 | ) | (9 | ) | Other operating expenses |
(3 | ) | (4 | ) | Other operating expenses |
| | |||||||||||||
Foreign exchange contracts |
(2 | ) | (1 | ) | Interest and other, net |
(1 | ) | (2 | ) | Interest and other, net |
| | |||||||||||||
Foreign exchange contracts |
1 | 5 | Net revenue |
4 | 5 | Interest and other, net |
1 | 2 | |||||||||||||||||
Total cash flow hedges |
$ | (305 | ) | $ | (102 | ) | $ | 430 | $ | 955 | $ | 1 | $ | 2 | |||||||||||
Net investment hedges: |
|||||||||||||||||||||||||
Foreign exchange contracts |
$ | (31 | ) | $ | (31 | ) | Interest and other, net |
$ | | $ | | Interest and other, net |
$ | | $ | | |||||||||
HP expects to reclassify net accumulated other comprehensive gain of $118 million, net of taxes, to earnings in the next twelve months along with the earnings effects of the related forecasted transactions in association with cash flow hedges.
29
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 9: Derivative Financial Instruments (Continued)
The before-tax effect of derivative instruments not designated as hedging instruments on the Consolidated Condensed Statements of Earnings was as follows:
|
Gain (Loss) Recognized in Income on Derivative | ||||||||
---|---|---|---|---|---|---|---|---|---|
|
Location | Three months ended April 30, 2009 |
Six months ended April 30, 2009 |
||||||
|
|
In millions |
|||||||
Foreign exchange contracts |
Interest and other, net | $ | (229 | ) | $ | (211 | ) | ||
Total return contracts |
Interest and other, net | 31 | 9 | ||||||
Interest rate contracts |
Interest and other, net | 10 | 8 | ||||||
Total |
$ | (188 | ) | $ | (194 | ) | |||
Note 10: Financing Receivables and Operating Leases
Financing receivables represent sales-type and direct-financing leases resulting from the marketing of HP's and third-party products. These receivables typically have terms from two to five years and are usually collateralized by a security interest in the underlying assets. Financing receivables also include billed receivables from operating leases. The components of net financing receivables, which are included in financing receivables and long-term financing receivables and other assets, were as follows:
|
April 30, 2009 |
October 31, 2008 |
|||||
---|---|---|---|---|---|---|---|
|
In millions |
||||||
Minimum lease payments receivable |
$ | 5,596 | $ | 5,338 | |||
Allowance for doubtful accounts |
(97 | ) | (90 | ) | |||
Unguaranteed residual value |
243 | 254 | |||||
Unearned income |
(524 | ) | (466 | ) | |||
Financing receivables, net |
5,218 | 5,036 | |||||
Less current portion |
(2,352 | ) | (2,314 | ) | |||
Amounts due after one year, net |
$ | 2,866 | $ | 2,722 | |||
Equipment leased to customers under operating leases was $2.7 billion at April 30, 2009 and $2.3 billion at October 31, 2008 and is included in Property, plant and equipment in the Consolidated Condensed Balance Sheets. Accumulated depreciation on these operating leases was $0.8 billion at April 30, 2009 and $0.5 billion at October 31, 2008.
30
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 11: Guarantees
Guarantees and Indemnifications
In the ordinary course of business, HP may provide certain clients, principally governmental entities, with subsidiary performance guarantees and/or financial performance guarantees, which may be backed by standby letters of credit or surety bonds. In general, HP would be liable for the amounts of these guarantees in the event HP or HP's subsidiaries' nonperformance permits termination of the related contract by the client, the likelihood of which HP believes is remote. HP believes that the company is in compliance with the performance obligations under all material service contracts for which there is a performance guarantee.
As a result of the acquisition of EDS, HP acquired certain service contracts supported by client financing or securitization arrangements. Under specific circumstances involving non-performance resulting in service contract termination or failure to comply with terms under the financing arrangement, HP would be required to acquire certain assets. HP considers the possibility of its failure to comply to be remote and the asset amounts involved to be immaterial.
In the ordinary course of business, HP enters into contractual arrangements under which HP may agree to indemnify the third party to such arrangement from any losses incurred relating to the services they perform on behalf of HP or for losses arising from certain events as defined within the particular contract, which may include, for example, litigation or claims relating to past performance. Such indemnification obligations may not be subject to maximum loss clauses. Historically, payments made related to these indemnifications have been immaterial.
Warranty
HP provides for the estimated cost of product warranties at the time it recognizes revenue. HP engages in extensive product quality programs and processes, including actively monitoring and evaluating the quality of its component suppliers; however, product warranty terms offered to customers, ongoing product failure rates, material usage and service delivery costs incurred in correcting a product failure, as well as specific product class failures outside of HP's baseline experience, affect the estimated warranty obligation. If actual product failure rates, repair rates or any other post sales support costs differ from these estimates, revisions to the estimated warranty liability would be required.
The changes in HP's aggregate product warranty liabilities for the six months ended April 30, 2009 were as follows:
|
In millions | |||
---|---|---|---|---|
Product warranty liability at October 31, 2008 |
$ | 2,614 | ||
Accruals for warranties issued |
1,293 | |||
Adjustments related to pre-existing warranties (including changes in estimates) |
(161 | ) | ||
Settlements made (in cash or in kind) |
(1,355 | ) | ||
Product warranty liability at April 30, 2009 |
$ | 2,391 | ||
31
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 12: Borrowings
Notes Payable and Short-Term Borrowings
Notes payable and short-term borrowings, including the current portion of long-term debt, were as follows:
|
April 30, 2009 | October 31, 2008 | |||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
Amount Outstanding |
Weighted- Average Interest Rate |
Amount Outstanding |
Weighted- Average Interest Rate |
|||||||||
|
In millions |
||||||||||||
Commercial paper |
$ | 2,703 | 0.8 | % | $ | 7,146 | 2.7 | % | |||||
Current portion of long-term debt |
2,648 | 3.3 | % | 2,674 | 4.3 | % | |||||||
Notes payable to banks, lines of credit and other |
351 | 2.2 | % | 356 | 5.3 | % | |||||||
|
$ | 5,702 | $ | 10,176 | |||||||||
Notes payable to banks, lines of credit and other includes deposits associated with HP's banking-related activities of approximately $291 million and $262 million at April 30, 2009 and October 31, 2008, respectively.
32
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 12: Borrowings (Continued)
Long-Term Debt
Long-term debt was as follows:
|
April 30, 2009 |
October 31, 2008 |
|||||||
---|---|---|---|---|---|---|---|---|---|
|
In millions |
||||||||
U.S. Dollar Global Notes |
|||||||||
2002 Shelf Registration Statement: |
|||||||||
$500 issued at discount to par of 99.505% in June 2002 at 6.5%, due July 2012 |
$ | 499 | $ | 499 | |||||
2006 Shelf Registration Statement: |
|||||||||
$600 issued at par in February 2007 at three-month USD LIBOR plus 0.11%, due March 2012 |
600 | 600 | |||||||
$900 issued at discount to par of 99.938% in February 2007 at 5.25%, due March 2012 |
900 | 900 | |||||||
$500 issued at discount to par of 99.694% in February 2007 at 5.4%, due March 2017 |
499 | 499 | |||||||
$1,000 issued at par in June 2007 at three-month USD LIBOR plus 0.01%, due June 2009 |
1,000 | 1,000 | |||||||
$1,000 issued at par in June 2007 at three-month USD LIBOR plus 0.06%, due June 2010 |
1,000 | 1,000 | |||||||
$750 issued at par in March 2008 at three-month USD LIBOR plus 0.40%, due September 2009 |
750 | 750 | |||||||
$1,500 issued at discount to par of 99.921% in March 2008 at 4.5%, due March 2013 |
1,499 | 1,499 | |||||||
$750 issued at discount to par of 99.932% in March 2008 at 5.5%, due March 2018 |
750 | 750 | |||||||
$2,000 issued at discount to par of 99.561% in December 2008 at 6.125%, due March 2014 |
1,991 | | |||||||
$275 issued at par in February 2009 at three-month USD LIBOR plus 1.75%, due February 2011 |
275 | | |||||||
$1,000 issued at discount to par of 99.956% in February 2009 at 4.25%, due February 2012 |
1,000 | | |||||||
$1,500 issued at discount to par of 99.993% in February 2009 at 4.75%, due June 2014 |
1,500 | | |||||||
|
12,263 | 7,497 | |||||||
EDS Senior Notes |
|||||||||
$700 issued October 1999 at 7.125%, due October 2009 |
706 | 712 | |||||||
$1,100 issued June 2003 at 6.0%, due August 2013 |
1,145 | 1,150 | |||||||
$300 issued October 1999 at 7.45%, due October 2029 |
316 | 316 | |||||||
|
2,167 | 2,178 | |||||||
Other, including capital lease obligations, at 3.75%-9.14%, due in calendar year 2009-2029 and at 3.75%-8.63%, due in calendar year 2008-2029 |
813 | 597 | |||||||
Fair value adjustment related to SFAS No. 133 |
383 | 78 | |||||||
|
15,626 | 10,350 | |||||||
Less: current portion |
(2,648 | ) | (2,674 | ) | |||||
Total long-term debt |
$ | 12,978 | $ | 7,676 | |||||
33
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 12: Borrowings (Continued)
HP may redeem some or all of the Global Notes as set forth in the above table at any time at the redemption prices described in the prospectus supplements relating thereto. The Global Notes are senior unsecured debt.
HP registered the sale of up to $3.0 billion of debt or global securities, common stock, preferred stock, depositary shares and warrants under a shelf registration statement in March 2002 (the "2002 Shelf Registration Statement"). The 2002 Shelf Registration Statement expired on December 1, 2008, and, accordingly, HP is no longer able to issue any additional securities under this Registration Statement.
In May 2006, HP filed a shelf registration statement (the "2006 Shelf Registration Statement") with the Securities and Exchange Commission ("SEC") to enable HP to offer and sell, from time to time, in one or more offerings, an unlimited amount of debt securities, common stock, preferred stock, depositary shares and warrants. As of April 30, 2009, HP had $11.8 billion of global notes issued under the 2006 Shelf Registration Statement. On December 5, 2008, HP issued $2.0 billion of global notes under the 2006 Shelf Registration Statement. The global notes issued in December 2008 are due in March 2014, bear interest at a fixed interest rate of 6.125% per annum and were issued at a discount to par of 99.561%. On February 26, 2009, HP issued an additional $2.8 billion of global notes under the 2006 Shelf Registration Statement. The global notes include $275 million of floating rate notes at three-month USD LIBOR plus 1.75% due February 2011 issued at par, $1.0 billion of notes due February 2012 with a fixed rate of 4.25% per annum issued at a discount to par of 99.956% and $1.5 billion of notes due June 2014 with a fixed rate of 4.75% per annum issued at a discount to par of 99.993%. HP used the net proceeds from the December 2008 and February 2009 offerings for general corporate purposes and the repayment of short-term commercial paper, some of which was issued in connection with its acquisition of EDS.
In May 2008, the Board of Directors approved increasing the capacity of HP's U.S. commercial paper program by $10.0 billion to $16.0 billion. HP's subsidiaries are authorized to issue up to an additional $1.0 billion of commercial paper, of which $500 million of capacity is currently available to be used by Hewlett-Packard International Bank PLC, a wholly-owned subsidiary of HP, for its Euro Commercial Paper/Certificate of Deposit Programme.
In October 2008, HP registered for the Commercial Paper Funding Facility ("CPFF") provided by the Federal Reserve Bank of New York. The facility enables HP to issue three-month unsecured commercial paper through a special purpose vehicle of the Federal Reserve at a rate established by the CPFF program, which is currently equal to a spread over the three-month overnight index swap rate. The maximum amount of commercial paper that HP may issue at any time through this program is $10.4 billion less the total principal amount of all other outstanding commercial paper that HP has issued. In February 2009, the Federal Reserve extended the CPFF program through October 30, 2009. As of April 30, 2009, HP had not issued any commercial paper under the CPFF program.
HP has a $2.9 billion five-year credit facility expiring in May 2012. In February and July 2008, HP entered into additional 364-day credit facilities of $3.0 billion and $8.0 billion, respectively. The February 2008 credit facility expired in February 2009, at which time HP entered into a new $3.5 billion 364-day credit facility. Commitment fees, interest rates and other terms of borrowing under the credit facilities vary based on HP's external credit ratings. The credit facilities are senior unsecured committed
34
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 12: Borrowings (Continued)
borrowing arrangements primarily to support the issuance of U.S. commercial paper. Under the terms of the July 2008 $8.0 billion 364-day credit facility, the amount of credit available declines in an amount equal to the proceeds of any future issuance of long-term debt by HP. In December 2008 and February 2009, HP issued $2.0 billion and $2.8 billion, respectively, in global notes, which resulted in a reduction in the amount of credit available under the July 2008 credit facility to $3.2 billion as of April 30, 2009.
HP also maintains uncommitted lines of credit from a number of financial institutions that are available through various foreign subsidiaries. The amount available for use as of April 30, 2009 was approximately $1.2 billion.
Included in Other, including capital lease obligations, are borrowings that are collateralized by certain financing receivable assets. As of April 30, 2009, the carrying value of the assets approximated the carrying value of the borrowings of $8 million.
At April 30, 2009, HP had up to approximately $15.0 billion of available borrowing resources, including $13.8 billion under its commercial paper programs, $9.6 billion of which is supported by its credit facilities, and approximately $1.2 billion under other programs. As of that date, HP also was able to issue an unlimited amount of additional debt securities, common stock, preferred stock, depositary shares and warrants under the 2006 Shelf Registration Statement.
Subsequent Events
In May 2009, HP filed a shelf registration statement (the "2009 Shelf Registration Statement") with the SEC to enable HP to offer and sell, from time to time, in one or more offerings, an unlimited amount of debt securities, common stock, preferred stock, depositary shares and warrants. The 2009 Shelf Registration Statement replaced the 2006 Shelf Registration Statement, which expired in May 2009.
In May 2009, HP issued $2.0 billion of global notes under the 2009 Shelf Registration Statement. The global notes issued in May 2009 include $1.0 billion of notes due May 2011 with a fixed rate of 2.25% per annum issued at a discount to par of 99.967%, $750 million of floating rate notes due May 2011 at three-month USD LIBOR plus 1.05% issued at par, and $250 million of notes due August 2012 with a fixed rate of 2.95% per annum issued at a discount to par of 99.984%. HP intends to use the net proceeds from these offerings for general corporate purposes and the repayment of short-term commercial paper, some of which was issued in connection with its acquisition of EDS.
In May 2009, HP terminated the July 2008 credit facility, which reduced the amount available under its credit facilities to $6.4 billion.
Note 13: Income Taxes
Provision for Taxes
HP's effective tax rate was 18.6% and 20.7% for the three months ended April 30, 2009 and April 30, 2008, respectively, and 18.3% and 20.6% for the six months ended April 30, 2009 and April 30, 2008, respectively. HP's effective tax rate generally differs from the U.S. federal statutory rate of 35% due to favorable tax rates associated with certain earnings from HP's operations in lower-tax
35
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 13: Income Taxes (Continued)
jurisdictions throughout the world. HP has not provided U.S. taxes for such earnings because HP plans to reinvest those earnings indefinitely outside the United States.
There were no material discrete items affecting the tax rate for the three and six months ended April 30, 2009.
In the three and six months ended April 30, 2008, HP recorded discrete events with a net tax benefit of $58 million and $47 million, respectively, decreasing the effective tax rate. These amounts include reductions to net income tax accruals of $224 million as a result of settlements with tax authorities regarding certain transfer pricing issues for fiscal years 1993 through 2005. These favorable adjustments were offset in part by an increase of $167 million to deferred tax liabilities related to earnings outside the United States. HP recorded other miscellaneous discrete events that resulted in a net tax benefit of $1 million and a net tax expense of $10 million for the three and six months ended April 30, 2008, respectively.
During the second quarter of fiscal 2009, the amounts of gross unrecognized tax benefits determined in accordance with Financial Interpretation No. 48, "Accounting for Uncertainty in Income Taxesan interpretation of FASB Statement No. 109" ("FIN 48") decreased by $200 million to $2.3 billion as of April 30, 2009, of which up to $805 million would affect HP's effective tax rate if realized.
HP recognizes interest expense and penalties on unrecognized tax benefits and interest income from favorable settlements and income tax receivables within income tax expense. As of April 30, 2009 HP had accrued a net $154 million income tax payable for interest and penalties. There were no material amounts of net interest income on tax overpayments recorded during the three and six months ended April 30, 2009.
HP engages in continuous discussion and negotiation with tax authorities regarding tax matters in the various jurisdictions. HP does not expect complete resolution of any Internal Revenue Service ("IRS") audit cycle within the next 12 months. However, it is reasonably possible that certain federal, foreign and state tax issues may be concluded in the next 12 months, including issues involving transfer pricing and other matters. Accordingly, HP believes it is reasonably possible that its existing unrecognized tax benefits may be reduced by an amount up to $350 million within the next twelve months.
HP is subject to income tax in the United States and over sixty foreign countries and is subject to routine corporate income tax audits in many of these jurisdictions. In addition, HP is subject to numerous ongoing audits by state and foreign tax authorities. HP has received from the IRS Notices of Deficiency for its fiscal 1999, 2000 and 2003 tax years and Revenue Agent's Reports ("RAR's") for its fiscal 2001 and 2002 tax years. The IRS began an audit of HP's 2004 and 2005 income tax returns in 2007. With respect to major foreign and state tax jurisdictions, HP is no longer subject to tax authority examinations for years prior to 1999. HP believes that adequate reserves have been provided for all open tax years.
36
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 13: Income Taxes (Continued)
The breakdown between current and long-term deferred tax assets and deferred tax liabilities was as follows:
|
April 30, 2009 |
October 31, 2008 |
|||||
---|---|---|---|---|---|---|---|
|
In millions |
||||||
Current deferred tax assets |
$ | 3,928 | $ | 3,920 | |||
Current deferred tax liabilities |
(79 | ) | (97 | ) | |||
Long-term deferred tax assets |
1,045 | 792 | |||||
Long-term deferred tax liabilities |
(3,111 | ) | (3,162 | ) | |||
Total deferred tax assets net of deferred tax liabilities |
$ | 1,783 | $ | 1,453 | |||
Note 14: Stockholders' Equity
Share Repurchase Program
HP's share repurchase program authorizes both open market and private repurchase transactions. In the three and six months ended April 30, 2009, HP executed share repurchases of 23 million shares and 45 million shares, respectively. For the three months ended April 30, 2009, repurchases of 24 million shares were settled for $0.8 billion. For the six months ended April 30, 2009, repurchases of 58 million shares were settled for $2.0 billion, which included 14 million shares repurchased in transactions that were executed in fiscal 2008 but settled in the first half of fiscal 2009. HP had approximately 1 million shares repurchased in the second quarter of fiscal 2009 that will be settled in the third quarter of fiscal 2009. HP paid $2.9 billion in connection with repurchases of 66 million shares during the three months ended April 30, 2008, and paid $6.2 billion in connection with share repurchases of 137 million shares in the first six months of fiscal 2008.
As of April 30, 2009, HP had remaining authorization of $7.1 billion for future share repurchases under the $8.0 billion repurchase authorization approved by HP's Board of Directors on September 19, 2008.
37
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 14: Stockholders' Equity (Continued)
Comprehensive Income
The changes in the components of other comprehensive income ("OCI"), net of taxes, were as follows:
|
Three months ended April 30 |
|||||||
---|---|---|---|---|---|---|---|---|
|
2009 | 2008 | ||||||
|
In millions |
|||||||
Net earnings |
$ | 1,716 | $ | 2,057 | ||||
Net change in unrealized losses on available-for-sale securities: |
||||||||
Change in net unrealized gains (losses), net of tax of $4 million in 2009 and with no tax effect in 2008 |
11 | (2 | ) | |||||
Net unrealized gains reclassified into earnings, with no tax effect in 2009 and 2008 |
(1 | ) | | |||||
|
10 | (2 | ) | |||||
Net change in unrealized gains on cash flow hedges: |
||||||||
Change in net unrealized losses, net of tax benefit of $157 million in 2009 and $14 million in 2008 |
(270 | ) | (24 | ) | ||||
Net unrealized gains reclassified into earnings, net of tax of $120 million in 2009 and $3 million in 2008 |
(208 | ) | (5 | ) | ||||
|
(478 | ) | (29 | ) | ||||
Net change in cumulative translation adjustment, net of tax of $202 million in 2009 and net of tax benefit of $5 million in 2008 |
137 | 13 | ||||||
Net change in unrealized components of defined benefit plans, net of tax benefit of $4 million in 2009 and $6 million in 2008 |
(15 | ) | (13 | ) | ||||
Comprehensive income |
$ | 1,370 | $ | 2,026 | ||||
38
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 14: Stockholders' Equity (Continued)
|
Six months ended April 30 |
|||||||
---|---|---|---|---|---|---|---|---|
|
2009 | 2008 | ||||||
|
In millions |
|||||||
Net earnings |
$ | 3,570 | $ | 4,190 | ||||
Net change in unrealized losses on available-for-sale securities: |
||||||||
Change in net unrealized gains (losses), with no tax effect in 2009 and 2008 |
4 | (3 | ) | |||||
Net unrealized gains reclassified into earnings, with no tax effect in 2009 and 2008 |
(1 | ) | | |||||
|
3 | (3 | ) | |||||
Net change in unrealized gains on cash flow hedges: |
||||||||
Change in net unrealized (losses) gains, net of tax benefit of $26 million in 2009 and net of tax of $5 million in 2008 |
(45 | ) | 9 | |||||
Net unrealized (gains) losses reclassified into earnings, net of tax of $370 million in 2009 and net of tax benefit of $27 million in 2008 |
(639 | ) | 47 | |||||
|
(684 | ) | 56 | |||||
Net change in cumulative translation adjustment, net of tax benefit of $9 million in 2009 and with no tax effect in 2008 |
(245 | ) | 11 | |||||
Net change in unrealized components of defined benefit plans, net of tax of $55 million in 2009 and net of tax benefit of $14 million in 2008 |
65 | (40 | ) | |||||
Comprehensive income |
$ | 2,709 | $ | 4,214 | ||||
The components of accumulated other comprehensive loss, net of taxes, were as follows:
|
April 30, 2009 |
October 31, 2008 |
|||||
---|---|---|---|---|---|---|---|
|
In millions |
||||||
Net unrealized losses on available-for-sale securities |
$ | (9 | ) | $ | (12 | ) | |
Net unrealized gains on cash flow hedges |
118 | 802 | |||||
Cumulative translation adjustment |
(1,008 | ) | (763 | ) | |||
Unrealized components of defined benefit plans |
(27 | ) | (92 | ) | |||
Accumulated other comprehensive loss |
$ | (926 | ) | $ | (65 | ) | |
39
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 15: Retirement and Post-Retirement Benefit Plans
Modifications to Defined Contribution Plans
HP offers various defined contribution plans for U.S. and non-U.S. employees. As disclosed in our Consolidated Financial Statements for the fiscal year ended October 31, 2008, HP matches employee contributions to the HP 401(k) Plan with cash contributions up to a maximum of 6% of eligible compensation for U.S. employees hired prior to August 1, 2008 and up to a maximum of 4% of eligible compensation for U.S. employees hired on or after August 1, 2008. Further, effective January 1, 2009, U.S. employees participating in the EDS 401(k) Plan became eligible for a 4% HP matching contribution on eligible compensation.
Effective April 1, 2009, HP matching contributions under both the HP 401(k) Plan and the EDS 401(k) Plan were changed to a quarterly, discretionary, performance-based match of up to a maximum of 4% of eligible compensation for all U.S. employees, which will be determined each fiscal quarter based on business results. HP matching contributions will vary from 0% to 100% of the maximum 4% match, based on factors such as quarterly earnings, market share growth, and performance relative to market and economic conditions. The first quarterly match under this new formula will be determined as of July 31, 2009 covering an extended period of April 1, 2009 through July 31, 2009.
HP's net pension and post-retirement benefit costs were as follows:
|
Three months ended April 30 | |||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
U.S. Defined Benefit Plans |
Non-U.S. Defined Benefit Plans |
Post- Retirement Benefit Plans |
|||||||||||||||||
|
2009 | 2008 | 2009 | 2008 | 2009 | 2008 | ||||||||||||||
|
In millions |
|||||||||||||||||||
Service cost |
$ | 7 | $ | 8 | $ | 75 | $ | 65 | $ | 4 | $ | 7 | ||||||||
Interest cost |
148 | 59 | 146 | 108 | 17 | 19 | ||||||||||||||
Expected return on plan assets |
(133 | ) | (63 | ) | (158 | ) | (170 | ) | (8 | ) | (10 | ) | ||||||||
Amortization and deferrals: |
||||||||||||||||||||
Actuarial (gain) loss |
(21 | ) | (9 | ) | 14 | | 2 | 5 | ||||||||||||
Prior service benefit |
| | (2 | ) | (2 | ) | (20 | ) | (14 | ) | ||||||||||
Net periodic benefit cost (gain) |
1 | (5 | ) | 75 | 1 | (5 | ) | 7 | ||||||||||||
Settlement gain |
(1 | ) | | | | | | |||||||||||||
Curtailment gain |
| | | | (2 | ) | | |||||||||||||
Special termination benefits |
| | 2 | 2 | | | ||||||||||||||
Net benefit cost (gain) |
$ | | $ | (5 | ) | $ | 77 | $ | 3 | $ | (7 | ) | $ | 7 | ||||||
40
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 15: Retirement and Post-Retirement Benefit Plans (Continued)
|
Six months ended April 30 | |||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
U.S. Defined Benefit Plans |
Non-U.S. Defined Benefit Plans |
Post- Retirement Benefit Plans |
|||||||||||||||||
|
2009 | 2008 | 2009 | 2008 | 2009 | 2008 | ||||||||||||||
|
In millions |
|||||||||||||||||||
Service cost |
$ | 13 | $ | 16 | $ | 152 | $ | 127 | $ | 7 | $ | 14 | ||||||||
Interest cost |
296 | 118 | 299 | 214 | 35 | 39 | ||||||||||||||
Expected return on plan assets |
(266 | ) | (127 | ) | (323 | ) | (335 | ) | (16 | ) | (20 | ) | ||||||||
Amortization and deferrals: |
||||||||||||||||||||
Actuarial (gain) loss |
(34 | ) | (18 | ) | 34 | | 3 | 10 | ||||||||||||
Prior service benefit |
| | (4 | ) | (4 | ) | (39 | ) | (28 | ) | ||||||||||
Net periodic benefit cost (gain) |
9 | (11 | ) | 158 | 2 | (10 | ) | 15 | ||||||||||||
Settlement gain |
(1 | ) | | | | | | |||||||||||||
Curtailment gain |
| | | | (2 | ) | | |||||||||||||
Special termination benefits |
| | 3 | 3 | | | ||||||||||||||
Net benefit cost (gain) |
$ | 8 | $ | (11 | ) | $ | 161 | $ | 5 | $ | (12 | ) | $ | 15 | ||||||
Employer Contributions and Funding Policy
HP previously disclosed in its Consolidated Financial Statements for the fiscal year ended October 31, 2008 that it expected to contribute approximately $360 million to its non-U.S. pension plans and approximately $35 million to cover benefit payments to U.S. non-qualified plan participants in fiscal 2009. In addition, HP expected to pay approximately $70 million to cover benefit claims for HP's post-retirement benefit plans. HP's funding policy is to contribute cash to its pension plans so that it meets at least the minimum contribution requirements, as established by local government and funding and taxing authorities.
As of April 30, 2009, HP has made $319 million of contributions to non-U.S. pension plans, paid $20 million to cover benefit payments to U.S. non-qualified plan participants, and paid $20 million to cover benefit claims under post-retirement benefit plans. HP presently anticipates making additional contributions of approximately $115 million to its non-U.S. pension plans and approximately $10 million to its U.S. non-qualified plan participants and expects to pay up to $35 million to cover benefit claims under post-retirement benefit plans during the remainder of fiscal 2009. HP's pension and other post-retirement benefit costs and obligations are dependent on various assumptions. Differences between expected and actual returns on investments will be reflected as unrecognized gains or losses, and such gains or losses will be amortized and recorded in future periods. Poor financial performance of asset markets in any year could lead to increased contributions in certain countries and increased future pension plan expense. Asset gains or losses are determined at the measurement date and amortized over the remaining service life or life expectancy of plan participants. HP's next expected measurement date is October 31, 2009.
41
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 16: Litigation and Contingencies
HP is involved in lawsuits, claims, investigations and proceedings, including those identified below, consisting of intellectual property, commercial, securities, employment, employee benefits and environmental matters that arise in the ordinary course of business. In accordance with SFAS No. 5, "Accounting for Contingencies," HP records a provision for a liability when management believes that it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. HP believes it has adequate provisions for any such matters. HP reviews these provisions at least quarterly and adjusts these provisions to reflect the impact of negotiations, settlements, rulings, advice of legal counsel, and other information and events pertaining to a particular case. Based on its experience, HP believes that any damage amounts claimed in the specific matters discussed below are not a meaningful indicator of HP's potential liability. Litigation is inherently unpredictable. However, HP believes that it has valid defenses with respect to legal matters pending against it. Nevertheless, it is possible that cash flows or results of operations could be materially affected in any particular period by the unfavorable resolution of one or more of these contingencies or because of the diversion of management's attention and the creation of significant expenses.
Pending Litigation, Proceedings and Investigations
Copyright levies. As described below, proceedings are ongoing against HP in certain European Union ("EU") member countries, including litigation in Germany, seeking to impose levies upon equipment (such as multifunction devices ("MFDs"), personal computers ("PCs") and printers) and alleging that these devices enable producing private copies of copyrighted materials. The total levies due, if imposed, would be based upon the number of products sold and the per-product amounts of the levies, which vary. Some EU member countries that do not yet have levies on digital devices are expected to implement similar legislation to enable them to extend existing levy schemes, while some other EU member countries are expected to limit the scope of levy schemes and applicability in the digital hardware environment. HP, other companies and various industry associations are opposing the extension of levies to the digital environment and advocating alternative models of compensation to rights holders.
VerwertungsGesellschaft Wort ("VG Wort"), a collection agency representing certain copyright holders, instituted non-binding arbitration proceedings against HP in June 2001 in Germany before the arbitration board of the Patent and Trademark Office. The proceedings relate to whether and to what extent copyright levies for photocopiers should be imposed in accordance with copyright laws implemented in Germany on MFDs that allegedly enable the production of copies by private persons. Following unsuccessful arbitration, VG Wort filed a lawsuit against HP in May 2004 in the Stuttgart Civil Court in Stuttgart, Germany seeking levies on certain MFDs sold from 1997 to 2001. On December 22, 2004, the court held that HP is liable for payments regarding MFDs sold in Germany, and ordered HP to pay VG Wort an amount equal to 5% of the outstanding levies claimed, plus interest, on MFDs sold in Germany up to December 2001. VG Wort appealed this decision. On July 6, 2005, the Stuttgart Court of Appeals ordered HP to pay VG Wort levies based on the published tariffs for photocopiers in Germany (which range from EUR 38.35 to EUR 613.56 per unit), plus interest, on MFDs sold in Germany up to December 2001. HP appealed the Stuttgart Court of Appeals' decision to the Bundesgerichtshof (the German Federal Supreme Court). On January 30, 2008, the German Federal Supreme Court held that the MFDs covered by this lawsuit were photocopiers within the meaning of the German copyright law that was in effect until December 31, 2007, and, therefore, are
42
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 16: Litigation and Contingencies (Continued)
subject to the levies on photocopiers established by that law. HP has filed a claim with the German Federal Constitutional Court challenging that ruling and the application of conventional photocopier levies for MFDs sold in Germany up to December 2001.
On September 26, 2005, VG Wort filed an additional lawsuit against HP in the Stuttgart Civil Court in Stuttgart, Germany seeking assurance of full payment of levies on MFD units sold in Germany between 1997 and 2001, as well as for MFDs sold from 2002 onwards. On July 26, 2007, the court issued a decision following the ruling of the Stuttgart Court of Appeals with respect to the initial VG Wort lawsuit as described above. HP appealed the decision. On March 25, 2009, the German Association for Information Technology, Telecommunications and New Media e.V. ("BITKOM") entered into a settlement agreement with VG Wort and Verwertungsgesellschaft Bild-Kunst, another collection agency representing copyright holders ("VG Bild-Kunst"), that provides for the payment of levies on MFDs sold from 2002 through 2007. The levies vary from approximately €13 to €307 per unit depending on the type of device, the date sold and the copy speed and are subject to reduction if VG Wort or VG Bild-Kunst grants more favorable rates in the future to parties within Germany that are not covered by the settlement. No interest will be due on the levy payments provided that they are made by July 31, 2009. Companies that are or become BITKOM members are eligible to accede to the settlement. HP has acceded to the settlement.
In July 2004, VG Wort filed a separate lawsuit against HP in the Stuttgart Civil Court seeking levies on printers. On December 22, 2004, the court held that HP is liable for payments regarding all printers using ASCII code sold in Germany but did not determine the amount payable per unit. HP appealed this decision in January 2005 to the Stuttgart Court of Appeals. On May 11, 2005, the Stuttgart Court of Appeals issued a decision confirming that levies are due. On June 6, 2005, HP filed an appeal to the German Federal Supreme Court in Karlsruhe. On December 6, 2007, the German Federal Supreme Court issued a judgment that printers are not subject to levies under the existing law. The court issued a written decision on January 25, 2008, and VG Wort subsequently filed an application with the German Federal Supreme Court under Section 321a of the German Code of Civil Procedure contending that the court did not consider their arguments. On May 9, 2008, the German Federal Supreme Court denied VG Wort's application. In addition, VG Wort has filed a claim with the German Federal Constitutional Court challenging the ruling that printers are not subject to levies. HP has submitted unsolicited arguments to the latter court, and VG Wort has been directed to provide comments with respect to those arguments.
In September 2003, VG Wort filed a lawsuit against Fujitsu Siemens Computer GmbH ("FSC") in the Munich Civil Court in Munich, Germany seeking levies on PCs. This is an industry test case in Germany, and HP has agreed not to object to the delay if VG Wort sues HP for such levies on PCs following a final decision against FSC. On December 23, 2004, the Munich Civil Court held that PCs are subject to a levy and that FSC must pay 12 euros plus compound interest for each PC sold in Germany since March 2001. FSC appealed this decision in January 2005 to the Munich Court of Appeals. On December 15, 2005, the Munich Court of Appeals affirmed the Munich Civil Court decision. FSC filed an appeal with the German Federal Supreme Court in February 2006. On October 2, 2008, the German Federal Supreme Court issued a judgment that PCs were not photocopiers within the meaning of the German copyright law that was in effect until December 31, 2007 and, therefore, not subject to the levies on photocopiers established by that law. VG Wort has filed a claim with the German Federal Constitutional Court challenging that ruling.
43
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 16: Litigation and Contingencies (Continued)
On December 29, 2005, ZPU, a joint association of various German collection societies, instituted non-binding arbitration proceedings against HP before the arbitration board of the Patent and Trademark Office demanding reporting of every PC sold by HP in Germany from January 2002 through December 2005 and seeking a levy of 18.42 euros plus tax for each PC sold during that period. HP filed a notice of defense in connection with these proceedings in February 2006, and an arbitration hearing was held in December 2006. On July 31, 2007, the arbitration board issued a ruling proposing a levy of 15 euros plus tax for each PC sold during that period. HP has rejected the ruling of the arbitration board, and the arbitration proceedings have concluded. ZPU has filed a claim with the Munich Court of Appeals to which HP has responded. A hearing date has been set by the court for February 18, 2010.
Based on industry opposition to the extension of levies to digital products, HP's assessments of the merits of various proceedings and HP's estimates of the units impacted and levies, HP has accrued amounts that it believes are adequate to address the matters described above. However, the ultimate resolution of these matters and the associated financial impact on HP, including the number of units impacted, the amount of levies imposed and the ability of HP to recover such amounts through increased prices, remains uncertain.
Sky Subscribers Services Limited and British Sky Broadcasting Limited v. EDS and EDS Limited (UK) is a lawsuit filed on August 17, 2004 by Sky Subscribers Services Limited and British Sky Broadcasting Limited against Electronic Data Systems Corporation ("EDS"), a company that HP acquired in August 2008, and EDS Limited (UK) ("EDS UK"), one of EDS's subsidiaries, alleging deceit, negligent misrepresentation, negligent misstatement and breach of contract. The claims arose out of a customer relationship management project that was awarded to EDS in 2000, the principal objective of which was to develop a customer call center in Scotland. EDS's main role in the project was as systems integrator. On November 12, 2004, EDS and EDS UK filed their defense and counterclaim denying the claims and seeking damages for monies owed under the contract. The trial of this action commenced on October 15, 2007, and final arguments concluded on July 30, 2008. At trial, the plaintiffs claimed damages in excess of £700 million, and EDS and EDS UK counterclaimed for damages of approximately £5 million. HP is awaiting a decision from the court.
Skold, et al. v. Intel Corporation and Hewlett-Packard Company is a lawsuit in which HP was joined on June 14, 2004 that is pending in state court in Santa Clara County, California. The lawsuit alleges that HP (along with Intel) misled the public by suppressing and concealing the alleged material fact that systems that use the Intel Pentium 4 processor are less powerful and slower than systems using the Intel Pentium III processor and processors made by a competitor of Intel. The plaintiffs seek unspecified damages, restitution, attorneys' fees and costs, and certification of a nationwide class. On February 27, 2009, the court denied without prejudice plaintiffs' motion for nationwide class certification for a third time. The plaintiffs have appealed the court's decision.
Inkjet Printer Litigation. As described below, HP is involved in several lawsuits claiming breach of express and implied warranty, unjust enrichment, deceptive advertising and unfair business practices where the plaintiffs have alleged, among other things, that HP employed a "smart chip" in certain inkjet printing products in order to register ink depletion prematurely and to render the cartridge unusable through a built-in expiration date that is hidden, not documented in marketing materials to consumers, or both. The plaintiffs have also contended that consumers received false ink depletion
44
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 16: Litigation and Contingencies (Continued)
warnings and that the smart chip limits the ability of consumers to use the cartridge to its full capacity or to choose competitive products.
Baggett v. HP is a consumer class action filed against HP on June 6, 2007 in the United States District Court for the Central District of California alleging that HP employs a technology in its LaserJet color printers whereby the printing process shuts down prematurely, thus preventing customers from using the toner that is allegedly left in the cartridge. The plaintiffs also allege that HP fails to disclose to consumers that they will be unable to utilize the toner remaining in the cartridge after the printer shuts down. The complaint seeks certification of a nationwide class of purchasers of all HP LaserJet color printers and seeks unspecified damages, restitution, disgorgement, injunctive relief, attorneys' fees and costs. A hearing on the plaintiffs' motion for class certification is scheduled for June 8, 2009.
Rich v. HP is a consumer class action filed against HP on May 22, 2006 in the United States District Court for the Northern District of California. The suit alleges that HP designed its color inkjet printers to unnecessarily use color ink in addition to black ink when printing black and white images and text. The plaintiffs seek injunctive and monetary relief on behalf of a nationwide class.
On December 27, 2001, Cornell University and the Cornell Research Foundation, Inc. filed a complaint, amended on September 6, 2002, against HP in United States District Court for the Northern District of New York alleging that HP's PA-RISC 8000 family of microprocessors, and servers and workstations incorporating those processors, infringe a patent assigned to Cornell Research Foundation, Inc. that describes a way of executing microprocessor instructions. The complaint sought declaratory and injunctive relief and unspecified damages. The patent at issue in this litigation, United States Patent No. 4,807,115, expired on February 21, 2006. Therefore, the plaintiffs are no longer entitled to seek injunctive relief against HP. This matter was tried between May 19 and May 30, 2008, and, on May 30, 2008, a jury returned a verdict in favor of the plaintiffs in the amount of $184 million. On March 30, 2009, the trial court issued four post-trial decisions. The court denied several of HP's
45
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 16: Litigation and Contingencies (Continued)
post-trial motions, but granted HP's motion to reduce the damages award. The court reduced the award to approximately $53 million and subsequently entered judgment in favor of the plaintiffs in that amount. On April 10, 2009, HP filed a notice that it will appeal the judgment to the United States Court of Appeals for the Federal Circuit. On April 15, 2009, the plaintiffs filed a motion in the trial court to recover $14 million in attorneys' fees and costs and a motion to recover $36 million in pre-judgment interest. On May 15, 2009, the court denied the motion for attorneys' fees, awarded approximately $17 million in interest and approximately $1 million in costs, and entered an amended judgment reflecting those awards.
The United States of America, ex rel. Norman Rille and Neal Roberts v. Hewlett-Packard Company, et al. In 2004, two private individuals filed a civil "qui tam" complaint under the False Claims Act in the United States District Court for the Eastern District of Arkansas containing generalized allegations that HP and several other companies participated in an industry-wide practice of using partnership and alliance programs to make improper payments and cause the submission of false claims in connection with contracts to provide products and services to the federal government. On April 12, 2007, the U.S. Department of Justice intervened in the qui tam action and filed a complaint against HP (and several other companies in separate actions) on behalf of the United States containing allegations that HP violated the False Claims Act and the Anti-Kickback Act of 1986 by providing millions of dollars in kickbacks to its alliance partners, including "influencer fees" and "new business opportunity rebates." The U.S. complaint further alleges that HP violated the False Claims Act and the Anti-Kickback Act, breached its federal government contracts, induced the federal government to make payments to HP that HP was not entitled to receive under those contracts, and was unjustly enriched by expressly or impliedly making false statements, records or certifications to the federal government that it complied with and would continue to comply with the Anti-Kickback Act and by submitting claims to the government that allegedly were inflated because they included the amounts of the influencer fees and new business opportunity rebates. The U.S. complaint seeks treble damages plus civil penalties in connection with the alleged violations of the False Claims Act, double damages plus civil penalties in connection with the alleged violations of the Anti-Kickback Act and disgorgement of profits earned in connection with the breach of contract and unjust enrichment claims.
Leak Investigation Proceedings. As described below, HP is or has been the subject of various governmental inquiries concerning the processes employed in an investigation into leaks of HP confidential information to members of the media that concluded in May 2006:
46
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 16: Litigation and Contingencies (Continued)
been used to create a Privacy and Piracy Fund to assist California prosecutors in investigating and prosecuting consumer privacy and information piracy violations, $650,000 was used to pay statutory damages and $350,000 reimbursed the California Attorney General's office for its investigation costs. There was no finding of liability against HP as part of the settlement.
In addition, four stockholder derivative lawsuits have been filed in California purportedly on behalf of HP stockholders seeking to recover damages for alleged breach of fiduciary duty and to require HP to improve its corporate governance and internal control procedures as a result of the activities of the leak investigation: Staehr v. Dunn, et al. was filed in Santa Clara County Superior Court on September 18, 2006; Worsham v. Dunn, et al. was filed in Santa Clara County Superior Court on September 14, 2006; Tansey v. Dunn, et al. was filed in Santa Clara County Superior Court on September 20, 2006; and Hall v. Dunn, et al. was filed in Santa Clara County Superior Court on September 25, 2006. On October 19, 2006, the Santa Clara County Superior Court consolidated the four California cases under the caption In re Hewlett-Packard Company Derivative Litigation. The consolidated complaint filed on November 19, 2006, also seeks to recover damages in connection with sales of HP stock alleged to have been made by certain current and former HP officers and directors while in possession of material non-public information. Two additional stockholder derivative lawsuits, Pifko v. Babbio, et al., filed on September 19, 2006, and Gross v. Babbio, et al., filed on November 21,
47
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 16: Litigation and Contingencies (Continued)
2006, were filed in Chancery Court, County of New Castle, Delaware; both seek to recover damages for alleged breaches of fiduciary duty and to obtain an order instructing the defendants to refrain from further breaches of fiduciary duty and to implement corrective measures that will prevent future occurrences of the alleged breaches of fiduciary duty. On January 24, 2007, the Delaware court consolidated the two cases under the caption In re Hewlett-Packard Company Derivative Litigation and subsequently stayed the proceedings, as the parties had reached a tentative settlement. The HP Board of Directors appointed a Special Litigation Committee consisting of independent Board members authorized to investigate, review and evaluate the facts and circumstances asserted in these derivative matters and to determine how HP should proceed in these matters. On December 14, 2007, HP and the plaintiffs in the California and Delaware derivative actions entered into an agreement to settle those lawsuits. Under the terms of the settlement, HP agreed to continue certain corporate governance changes until December 31, 2012 and to pay the plaintiffs' attorneys' fees. The California court granted final approval to the settlement on March 11, 2008 and subsequently granted plaintiffs' counsel's fee application and dismissed the action. On June 12, 2008, the Delaware court granted final approval to the settlement and the plaintiffs' application for attorneys' fees and also dismissed the action. Because neither the dismissal of the California nor the Delaware derivative action was thereafter appealed, both cases are now concluded.
Concluded Litigation
Schorsch v. HP was a consumer class action filed against HP on October 28, 2003 in Illinois state court alleging that HP had included an electrically erasable programmable read only memory (EEPROM) chip in certain of its LaserJet printers that prematurely advises the user that the drum kit needs replacing in violation of Illinois state law. The plaintiffs subsequently filed an amended complaint seeking to expand the class from purchasers of drum kits to purchasers of all HP printer consumables that contain EEPROM chips. The plaintiffs sought certification of an Illinois-only class and unspecified damages, attorneys' fees and costs. The action was dismissed by the court with prejudice on December 20, 2008.
CSIRO Patent Litigation. Microsoft Corporation, Hewlett-Packard Company, et al. v. Commonwealth Scientific and Industrial Research Organisation of Australia is an action filed by HP and two other plaintiffs on May 9, 2005, in the District Court for the Northern District of California seeking a declaratory judgment against Commonwealth Scientific and Industrial Research Organisation of Australia ("CSIRO") that HP's products employing the IEEE 802.11a and 802.11g wireless protocol standards do not infringe CSIRO's United States Patent No. 5,487,069 relating to wireless transmission of data at frequencies in excess of 10GHz. On September 22, 2005, CSIRO filed an answer and counterclaims alleging that all HP products which employ those wireless protocol standards infringe the CSIRO patent and seeking damages, including enhanced damages and attorneys' fees and costs, and an injunction against sales of infringing products. On December 12, 2006, CSIRO successfully moved to have the case transferred to the District Court of the Eastern District of Texas. In March 2009, the parties agreed to settle the matter and dismiss the pending lawsuit. Under the terms of the settlement agreement, HP agreed to pay CSIRO an amount of money that is immaterial to HP in exchange for protection from claims of infringement of the patent at issue, including all United States and worldwide continuations and counterparts of that patent, in the form of a combination of licenses and covenants not to sue. The parties filed a stipulation dismissing the case on March 26, 2009.
48
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 16: Litigation and Contingencies (Continued)
Environmental
HP is subject to various federal, state, local and foreign laws and regulations concerning environmental protection, including laws addressing the discharge of pollutants into the air and water, the management and disposal of hazardous substances and wastes, the cleanup of contaminated sites, the content of its products and the recycling, treatment and disposal of its products including batteries. In particular, HP faces increasing complexity in its product design and procurement operations as it adjusts to new and future requirements relating to the chemical and materials composition of its products, their safe use, the energy consumption associated with those products and product take-back legislation. HP could incur substantial costs, its products could be restricted from entering certain jurisdictions, and it could face other sanctions if it were to violate or become liable under environmental laws or if its products become non-compliant with environmental laws. HP's potential exposure includes fines and civil or criminal sanctions, third-party property damage or personal injury claims and clean up costs. The amount and timing of costs under environmental laws are difficult to predict.
HP is party to, or otherwise involved in, proceedings brought by U.S. or state environmental agencies under the Comprehensive Environmental Response, Compensation and Liability Act ("CERCLA"), known as "Superfund," or state laws similar to CERCLA. HP is also conducting environmental investigations or remediations at several current or former operating sites pursuant to administrative orders or consent agreements with state environmental agencies.
HP is also subject to legislation in an increasing number of jurisdictions that makes producers of electrical goods, including computers and printers, financially responsible for specified collection, recycling, treatment and disposal of past and future covered products (sometimes referred to as "product take-back legislation"). For example, the European Union ("EU") adopted the Waste Electrical and Electronic Equipment Directive in January 2003. That directive makes producers of electrical goods, including computers and printers, financially responsible for specified collection, recycling, treatment and disposal of past and future covered products. The EU member states were obliged to make producers participating in the market financially responsible for implementing these responsibilities.
Note 17: Segment Information
Description of Segments
HP is a leading global provider of products, technologies, software, solutions and services to individual consumers, small and medium sized businesses ("SMBs"), and large enterprises including the public and education sectors. HP's offerings span personal computing and other access devices; imaging and printing-related products and services; enterprise information technology ("IT") infrastructure, including enterprise storage and server technology; software that optimizes business technology investments; financial services including leasing; and multi-vendor customer services, including technology support and maintenance, consulting and integration, information technology and business process outsourcing services and application services.
HP and its operations are organized into seven business segments for financial reporting purposes: Services, Enterprise Storage and Servers ("ESS"), HP Software, the Personal Systems Group ("PSG"),
49
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 17: Segment Information (Continued)
the Imaging and Printing Group ("IPG"), HP Financial Services ("HPFS"), and Corporate Investments. HP's organizational structure is based on a number of factors that management uses to evaluate, view and run its business operations, which include, but are not limited to, customer base, homogeneity of products and technology. The business segments disclosed in the accompanying Consolidated Condensed Financial Statements are based on this organizational structure and information reviewed by HP's management to evaluate the business segment results. Services, ESS and HP Software are reported collectively as a broader Technology Solutions Group ("TSG"). In order to provide a supplementary view of HP's business, aggregated financial data for TSG is presented herein.
HP has reclassified segment operating results for fiscal 2008 to conform to certain fiscal 2009 organizational realignments. None of the changes impacts HP's previously reported consolidated net revenue, earnings from operations, net earnings or net earnings per share. Future changes to this organizational structure may result in changes to the business segments disclosed. A description of the types of products and services provided by each business segment follows.
Technology Solutions Group.
Each of the business segments within TSG is described in detail below.
50
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 17: Segment Information (Continued)
51
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 17: Segment Information (Continued)
HP's other business segments are described below.
52
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 17: Segment Information (Continued)
Segment Data
HP derives the results of the business segments directly from its internal management reporting system. The accounting policies HP uses to derive business segment results are substantially the same as those the consolidated company uses. Management measures the performance of each business segment based on several metrics, including earnings from operations. Management uses these results, in part, to evaluate the performance of, and to assign resources to, each of the business segments. HP does not allocate to its business segments certain operating expenses, which it manages separately at the corporate level. These unallocated costs include primarily amortization of purchased intangible assets, stock-based compensation expense related to HP-granted employee stock options, PRUs and the employee stock purchase plan, certain acquisition-related charges and charges for purchased IPR&D, as well as certain corporate governance costs.
HP does not allocate to its business segments restructuring charges and any associated adjustments related to restructuring actions.
Selected operating results information for each business segment was as follows:
|
Three months ended April 30 | ||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
Net Revenue | Earnings (Loss) from Operations |
|||||||||||
|
2009 | 2008(1) | 2009 | 2008(1) | |||||||||
|
In millions |
||||||||||||
Services(2) |
$ | 8,488 | $ | 4,262 | $ | 1,172 | $ | 507 | |||||
Enterprise Storage and Servers |
3,456 | 4,780 | 250 | 655 | |||||||||
HP Software |
880 | 1,039 | 157 | 104 | |||||||||
Technology Solutions Group |
12,824 | 10,081 | 1,579 | 1,266 | |||||||||
Personal Systems Group |
8,191 | 10,071 | 374 | 544 | |||||||||
Imaging and Printing Group |
5,916 | 7,644 | 1,074 | 1,220 | |||||||||
HP Financial Services |
641 | 685 | 46 | 47 | |||||||||
Corporate Investments |
188 | 230 | (19 | ) | 6 | ||||||||
Segment total |
$ | 27,760 | $ | 28,711 | $ | 3,054 | $ | 3,083 | |||||
53
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 17: Segment Information (Continued)
|
Six months ended April 30 | ||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
Net Revenue | Earnings (Loss) from Operations |
|||||||||||
|
2009 | 2008(1) | 2009 | 2008(1) | |||||||||
|
In millions |
||||||||||||
Services(2) |
$ | 17,234 | $ | 8,314 | $ | 2,295 | $ | 1,006 | |||||
Enterprise Storage and Servers |
7,404 | 9,600 | 655 | 1,328 | |||||||||
HP Software |
1,758 | 1,986 | 297 | 153 | |||||||||
Technology Solutions Group |
26,396 | 19,900 | 3,247 | 2,487 | |||||||||
Personal Systems Group |
16,978 | 20,862 | 809 | 1,172 | |||||||||
Imaging and Printing Group |
11,897 | 15,001 | 2,179 | 2,362 | |||||||||
HP Financial Services |
1,277 | 1,327 | 87 | 90 | |||||||||
Corporate Investments |
384 | 448 | (38 | ) | 14 | ||||||||
Segment total |
$ | 56,932 | $ | 57,538 | $ | 6,284 | $ | 6,125 | |||||
54
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 17: Segment Information (Continued)
The reconciliation of segment operating results information to HP consolidated totals was as follows:
|
Three months ended April 30 |
Six months ended April 30 |
|||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
2009 | 2008 | 2009 | 2008 | |||||||||
|
In millions |
||||||||||||
Net revenue: |
|||||||||||||
Segment total |
$ | 27,760 | $ | 28,711 | $ | 56,932 | $ | 57,538 | |||||
Elimination of inter-segment net revenue and other |
(409 | ) | (449 | ) | (781 | ) | (809 | ) | |||||
Total HP consolidated net revenue |
$ | 27,351 | $ | 28,262 | $ | 56,151 | $ | 56,729 | |||||
Earnings before taxes: |
|||||||||||||
Total segment earnings from operations |
$ | 3,054 | $ | 3,083 | $ | 6,284 | $ | 6,125 | |||||
Corporate and unallocated costs and eliminations |
(62 | ) | (134 | ) | (38 | ) | (223 | ) | |||||
Unallocated costs related to stock-based compensation expense |
(156 | ) | (131 | ) | (304 | ) | (255 | ) | |||||
Amortization of purchased intangible assets |
(380 | ) | (211 | ) | (792 | ) | (417 | ) | |||||
In-process research and development charges |
| (13 | ) | (6 | ) | (13 | ) | ||||||
Restructuring charges |
(94 | ) | (4 | ) | (240 | ) | (14 | ) | |||||
Acquisition-related charges |
(75 | ) | | (123 | ) | | |||||||
Interest and other, net |
(180 | ) | 3 | (412 | ) | 75 | |||||||
Total HP consolidated earnings before taxes |
$ | 2,107 | $ | 2,593 | $ | 4,369 | $ | 5,278 | |||||
HP allocates its assets to its business segments based on the primary segments benefiting from the assets. The total assets of PSG decreased 15% to $13.9 billion as of April 30, 2009 from $16.4 billion as of October 31, 2008 due primarily to a decline in accounts and other receivables resulting from the current economic slowdown. The total assets of IPG decreased 14% to $12.2 billion as of April 30, 2009 from $14.2 billion as of October 31, 2008 due primarily to declines in inventory. There have been no material changes in the total assets of HP's other segments.
55
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Notes to Consolidated Condensed Financial Statements (Continued)
(Unaudited)
Note 17: Segment Information (Continued)
Net revenue by segment and business unit
|
Three months ended April 30 |
Six months ended April 30 |
|||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
2009 | 2008(1) | 2009 | 2008(1) | |||||||||||||
|
In millions |
||||||||||||||||
Net revenue: |
|||||||||||||||||
Infrastructure technology outsourcing |
$ |
3,836 |
$ |
1,312 |
$ |
7,796 |
$ |
2,564 |
|||||||||
Technology services |
2,441 | 2,568 | 4,892 | 5,026 | |||||||||||||
Application services |
1,502 | 342 | 3,094 | 648 | |||||||||||||
Business process outsourcing |
709 | 40 | 1,452 | 76 | |||||||||||||
Services(2) |
8,488 | 4,262 | 17,234 | 8,314 | |||||||||||||
Industry standard servers |
1,988 | 2,818 | 4,310 | 5,806 | |||||||||||||
Storage |
818 | 1,043 | 1,731 | 2,020 | |||||||||||||
Business critical systems |
650 | 919 | 1,363 | 1,774 | |||||||||||||
Enterprise Storage and Servers |
3,456 | 4,780 | 7,404 | 9,600 | |||||||||||||
Business technology optimization |
568 | 670 | 1,162 | 1,288 | |||||||||||||
Other software |
312 | 369 | 596 | 698 | |||||||||||||
HP Software |
880 | 1,039 | 1,758 | 1,986 | |||||||||||||
Technology Solutions Group |
12,824 | 10,081 | 26,396 | 19,900 | |||||||||||||
Notebooks |
4,697 | 5,373 | 9,604 | 11,037 | |||||||||||||
Desktops |
2,967 | 3,925 | 6,270 | 8,331 | |||||||||||||
Workstations |
287 | 490 | 620 | 952 | |||||||||||||
Handhelds |
47 | 102 | 104 | 191 | |||||||||||||
Other |
193 | 181 | 380 | 351 | |||||||||||||
Personal Systems Group |
8,191 | 10,071 | 16,978 | 20,862 | |||||||||||||
Supplies |
4,103 | 4,768 | 8,153 | 9,137 | |||||||||||||
Commercial hardware |
1,193 | 1,975 | 2,432 | 3,858 | |||||||||||||
Consumer hardware |
620 | 901 | 1,312 | 2,006 | |||||||||||||
Imaging and Printing Group |
5,916 | 7,644 | 11,897 | 15,001 | |||||||||||||
HP Financial Services |
641 | 685 | 1,277 | 1,327 | |||||||||||||
Corporate Investments |
188 | 230 | 384 | 448 | |||||||||||||
Total segments |
27,760 | 28,711 | 56,932 | 57,538 | |||||||||||||
Eliminations of inter-segment net revenue and other |
(409 | ) | (449 | ) | (781 | ) | (809 | ) | |||||||||
Total HP consolidated net revenue |
$ | 27,351 | $ | 28,262 | $ | 56,151 | $ | 56,729 | |||||||||
56
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.
HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Management's Discussion and Analysis of
Financial Condition and Results of Operations
The following discussion should be read in conjunction with the Consolidated Condensed Financial Statements and the related notes that appear elsewhere in this document.
OVERVIEW
We are a leading global provider of products, technologies, software, solutions and services to individual consumers, small- and medium-sized businesses, and large enterprises, including customers in the public and education sectors. Our offerings span:
We have seven business segments for financial reporting purposes: Services, Enterprise Storage and Servers ("ESS"), HP Software, the Personal Systems Group ("PSG"), the Imaging and Printing Group ("IPG"), HP Financial Services ("HPFS"), and Corporate Investments. Services, ESS and HP Software are reported collectively as a broader Technology Solutions Group ("TSG"). While TSG is not an operating segment, we sometimes provide financial data aggregating the segments within TSG in order to provide a supplementary view of our business.
The operating framework within which we manage our businesses and which guides our strategies is based on the disciplined management of three business levers: targeted growth, operational efficiency and strategic deployment of capital. Although we have made progress towards our goals in recent periods, there are still many areas in which we believe that we can improve. To implement this operating framework, we are focused on the following initiatives:
57
In September 2008, we announced a restructuring plan to gain efficiencies following the EDS acquisition. The restructuring plan is expected to be implemented over four years from the acquisition date and includes a targeted reduction in headcount of approximately 25,000 employees over that period, with the majority of the reductions occurring by the end of fiscal 2009. Our plan includes replacing roughly half of these positions in order to optimize our global footprint. As part of this plan, we recorded $1.8 billion in restructuring costs in the fourth quarter of fiscal 2008, $1.5 billion of which was booked to goodwill and $0.3 billion of which was recorded as a restructuring charge. In addition, we expect incremental real estate and acquisition related charges of approximately $1 billion associated with the acquisition of EDS. Of this amount, we recorded $0.2 billion of restructuring charges to goodwill in the second quarter of fiscal 2009. The remainder of the charges will be recorded over the next two and a half years.
In February 2009, we announced additional changes to our compensation and benefit programs in response to the current challenges of the global economy and the resulting effect on our revenues. As part of these changes, we reduced the base pay of most of our U.S. employees effective in the second quarter of fiscal 2009 and will reduce the base pay of many of our non-U.S. employees in future periods in compliance with local laws. Beginning in the second quarter of fiscal 2009, we also capped matching contributions under the HP 401(k) Plan for all U.S. employees at 4% of eligible compensation and will fund these matching contributions quarterly on a discretionary basis based on our financial performance. In addition, we modified our employee stock purchase plan to eliminate the 15% discount applicable to purchases made under the plan effective in the third quarter of fiscal 2009.
In May 2009, we announced an additional restructuring plan to eliminate approximately 2% of our workforce to structurally change and improve the effectiveness of our product businesses. The restructuring plan will be implemented during the 12-month period ending in May 2010 and, taking into account the adoption of this plan and the impact of the real estate and acquisition-related actions noted above, we expect to record a charge of approximately $0.12 to $0.14 per share in the third quarter of fiscal 2009.
We are continuing to evaluate our businesses and current market conditions and may consider additional restructuring actions in future periods.
58
In terms of how our execution has translated into financial performance, the following provides an overview of our key financial metrics in the second quarter and first half of fiscal 2009:
|
|
TSG | |
|
|
|||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
HP Consolidated | Services | ESS | HP Software | Total | PSG | IPG | HPFS | ||||||||||||||||||
|
In millions, except per share amounts |
|||||||||||||||||||||||||
Three Months Ended April 30 |
||||||||||||||||||||||||||
Net revenue |
$ | 27,351 | $ | 8,488 | $ | 3,456 | $ | 880 | $ | 12,824 | $ | 8,191 | $ | 5,916 | $ | 641 | ||||||||||
Year-over-year net revenue % increase (decrease) |
(3.2 | )% | 99.2 | % | (27.7 | )% | (15.3 | )% | 27.2 | % | (18.7 | )% | (22.6 | )% | (6.4 | )% | ||||||||||
Earnings from operations |
$ | 2,287 | $ | 1,172 | $ | 250 | $ | 157 | $ | 1,579 | $ | 374 | $ | 1,074 | $ | 46 | ||||||||||
Earnings from operations as a % of net revenue |
8.4 | % | 13.8 | % | 7.2 | % | 17.8 | % | 12.3 | % | 4.6 | % | 18.2 | % | 7.2 | % | ||||||||||
Net earnings |
$ | 1,716 | ||||||||||||||||||||||||
Net earnings per share |
||||||||||||||||||||||||||
Basic |
$ | 0.72 | ||||||||||||||||||||||||
Diluted |
$ | 0.70 | ||||||||||||||||||||||||
Six Months Ended April 30 |
||||||||||||||||||||||||||
Net revenue |
$ | 56,151 | $ | 17,234 | $ | 7,404 | $ | 1,758 | $ | 26,396 | $ | 16,978 | $ | 11,897 | $ | 1,277 | ||||||||||
Year-over-year net revenue % increase (decrease) |
(1.0 | )% | 107.3 | % | (22.9 | )% | (11.5 | )% | 32.6 | % | (18.6 | )% | (20.7 | )% | (3.8 | )% | ||||||||||
Earnings from operations |
$ | 4,781 | $ | 2,295 | $ | 655 | $ | 297 | $ | 3,247 | $ | 809 | $ | 2,179 | $ | 87 | ||||||||||
Earnings from operations as a % of net revenue |
8.5 | % | 13.3 | % | 8.8 | % | 16.9 | % | 12.3 | % | 4.8 | % | 18.3 | % | 6.8 | % | ||||||||||
Net earnings |
$ | 3,570 | ||||||||||||||||||||||||
Net earnings per share |
||||||||||||||||||||||||||
Basic |
$ | 1.49 | ||||||||||||||||||||||||
Diluted |
$ | 1.46 |
Cash and cash equivalents at April 30, 2009 totaled $12.9 billion, an increase of $2.7 billion from October 31, 2008. The increase for the first six months of fiscal 2009 was due primarily to $6.1 billion cash provided from operations, which was partially offset by $2.0 billion of cash used to repurchase common stock and $1.4 billion net investment in property, plant and equipment.
We intend the discussion of our financial condition and results of operations that follows to provide information that will assist in understanding our Consolidated Condensed Financial Statements, the changes in certain key items in those financial statements from year to year, and the primary factors that accounted for those changes, as well as how certain accounting principles, policies and estimates affect our Consolidated Condensed Financial Statements.
The discussion of results of operations at the consolidated level is followed by a more detailed discussion of results of operations by segment.
For a further discussion of factors that could impact operating results, see the section entitled "Factors That Could Affect Future Results" below.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Management's Discussion and Analysis of Financial Condition and Results of Operations is based upon our Consolidated Condensed Financial Statements, which we have prepared in accordance with U.S. generally accepted accounting principles ("GAAP"). The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosure of contingent assets and liabilities. Management bases its estimates on historical experience and on various other assumptions that it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Senior
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management has discussed the development, selection and disclosure of significant estimates with the Audit Committee of our Board of Directors. Actual results may differ from these estimates under different assumptions or conditions.
An accounting policy is deemed to be critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time the estimate is made, if different estimates reasonably could have been used, or if changes in the estimate that are reasonably likely to occur could materially impact the financial statements. Management believes that there have been no significant changes during the six months ended April 30, 2009 to the items that we disclosed as our critical accounting policies and estimates in Management's Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the fiscal year ended October 31, 2008. However, we have expanded our critical accounting policy disclosures beginning the first quarter of fiscal 2009 to include the following summary of our existing policy relating to loss contingencies. This summary previously has appeared, and continues to appear, as part of our disclosures regarding litigation and contingencies in Note 16 to the Consolidated Condensed Financial Statements in Item 1.
Loss Contingencies
We are involved in various lawsuits, claims, investigations and proceedings that arise in the ordinary course of business. In accordance with Statement of Financial Accounting Standards ("SFAS") No. 5, "Accounting for Contingencies", we record a provision for a liability when we believe that it is both probable that a liability has been incurred and the amount can be reasonably estimated. Significant judgment is required to determine both probability and the estimated amount. We review these provisions at least quarterly and adjust these provisions to reflect the impact of negotiations, settlements, rulings, advice of legal counsel, and updated information. Litigation is inherently unpredictable and is subject to significant uncertainties, some of which are beyond our control. Should any of these estimates and assumptions change or prove to have been incorrect, it could have a material impact on our results of operations, financial position and cash flows.
ACCOUNTING PRONOUNCEMENTS
As previously reported in our 2008 Annual Report on Form 10-K, we recognized the funded status of our benefit plans at October 31, 2007 in accordance with the recognition provisions of SFAS No. 158, "Employers' Accounting for Defined Benefit Pension and Other Postretirement PlansAn Amendment of Financial Accounting Standards Board ("FASB") Statements No. 87, 88, 106 and 132(R)" ("SFAS 158"). In addition to the recognition provisions, SFAS 158 also requires companies to measure the funded status of the plan as of the date of their fiscal year end, effective for fiscal years ending after December 15, 2008. We will adopt the measurement provisions of SFAS 158 effective October 31, 2009 for our pension and post retirement plans. We do not expect the adoption of the measurement provisions of SFAS 158 will have a material effect on our consolidated results of operations and financial condition.
In February 2008, the FASB issued FASB Staff Position ("FSP") SFAS 157-2, "Effective Date of FASB Statement No. 157" ("FSP SFAS 157-2"). FSP SFAS 157-2 delays the effective date of SFAS No. 157, "Fair Value Measurements" ("SFAS 157") to fiscal years beginning after November 15, 2008 for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). As a result of adoption of FSP SFAS 157-2, we will adopt SFAS 157 for all nonfinancial assets and nonfinancial liabilities in the first quarter of fiscal 2010. Although we will continue to evaluate the application of SFAS 157 to nonfinancial assets and nonfinancial liabilities, we do not expect the adoption of SFAS 157 with respect to nonfinancial assets and nonfinancial liabilities will have a material impact on our consolidated results of operations and financial condition.
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In December 2007, the FASB issued SFAS No. 141 (revised 2007), "Business Combinations" ("SFAS 141(R)"). SFAS 141(R) expands the definition of a business and a business combination; requires recognition of assets acquired, liabilities assumed, and contingent consideration at their fair value on the acquisition date; requires acquisition-related expenses and restructuring costs to be recognized separately from the business combination and expensed as incurred; requires in-process research and development to be capitalized at fair value as an intangible asset; and requires that changes in accounting for deferred tax asset valuation allowances and acquired income tax uncertainties after the measurement period be recognized as a component of provision for taxes. SFAS 141(R) also establishes disclosure requirements to enable the evaluation of the nature and financial effects of the business combination. SFAS 141(R) is effective for fiscal years beginning on or after December 15, 2008 and will be adopted by us in the first quarter of fiscal 2010. We are currently evaluating the potential impact of the adoption of SFAS 141(R) on our consolidated results of operations and financial condition, which will be largely dependent on the size and nature of the business combinations completed after the adoption of this statement. Among other potential impacts, we currently believes that the adoption of SFAS 141(R) will result in the recognition of certain types of expenses in our results of operations that are currently capitalized pursuant to existing accounting standards.
In December 2007, the FASB issued SFAS No. 160, "Noncontrolling Interests in Consolidated Financial Statementsan amendment of Accounting Research Bulletin No. 51" ("SFAS 160"). SFAS 160 establishes accounting and reporting standards for ownership interests in subsidiaries held by parties other than the parent, the amount of consolidated net income attributable to the parent and to the noncontrolling interest, changes in a parent's ownership interest, and the valuation of retained noncontrolling equity investments when a subsidiary is deconsolidated. SFAS 160 also establishes disclosure requirements that clearly identify and distinguish between the interests of the parent and the interests of the noncontrolling owners. SFAS 160 is effective for fiscal years beginning after December 15, 2008 and will be adopted by us in the first quarter of fiscal 2010. We are currently evaluating the potential impact, if any, of the adoption of SFAS 160 on our consolidated results of operations and financial condition.
In May 2008, the FASB issued FSP Accounting Principles Board ("APB") 14-1 "Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement)" ("FSP APB 14-1"). FSP APB 14-1 requires the issuer of certain convertible debt instruments that may be settled in cash (or other assets) on conversion to separately account for the liability (debt) and equity (conversion option) components of the instrument in a manner that reflects the issuer's non-convertible debt borrowing rate. FSP APB 14-1 is effective for fiscal years beginning after December 15, 2008 on a retroactive basis and will be adopted by us in the first quarter of fiscal 2010. We currently do not have any outstanding convertible debt instruments that are subject to the provisions of FSP APB 14-1. However, our U.S. dollar zero-coupon convertible notes that were redeemed in full in March 2008 are subject to the provisions of FSP APB 14-1. As a result, upon adoption of FSP APB 14-1 in the first quarter of fiscal 2010, our fiscal 2008 consolidated results of operations and financial condition will be affected on a retroactive basis. We do not expect the adoption of FSP APB 14-1 will have a material effect on our consolidated results of operations and financial condition.
In June 2008, the FASB issued FSP Emerging Issues Task Force ("EITF") 03-6-1, "Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities" ("FSP EITF 03-6-1"). FSP EITF 03-6-1 clarifies that share-based payment awards that entitle their holders to receive nonforfeitable dividends or dividend equivalents before vesting should be considered participating securities. We have granted and expect to continue to grant restricted stock that contain non-forfeitable rights to dividends and will be considered participating securities upon adoption of FSP EITF 03-6-1. As participating securities, we will be required to include these instruments in the calculation of our basic earnings per share ("EPS"), and we will need to calculate basic EPS using the
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"two-class method." Restricted stock is currently included in our dilutive EPS calculation using the treasury stock method. The two-class method of computing EPS is an earnings allocation formula that determines EPS for each class of common stock and participating security according to dividends declared (or accumulated) and participation rights in undistributed earnings. FSP EITF 03-6-1 is effective for fiscal years beginning after December 15, 2008 on a retrospective basis and will be adopted by us in the first quarter of fiscal 2010. We do not expect the adoption of FSP EITF 03-6-1 will have a material effect on our calculation of Basic EPS.
In November 2008, the FASB ratified EITF Issue No. 08-7, "Accounting for Defensive Intangible Assets" ("EITF 08-7"). EITF 08-7 applies to defensive intangible assets, which are acquired intangible assets that the acquirer does not intend to actively use but intends to hold to prevent its competitors from obtaining access to them. As these assets are separately identifiable, EITF 08-7 requires an acquiring entity to account for defensive intangible assets as a separate unit of accounting. Defensive intangible assets must be recognized initially at fair value in accordance with SFAS 141(R) and SFAS 157 and be amortized over the benefit period. EITF 08-7 is effective for defensive intangible assets acquired in fiscal years beginning on or after December 15, 2008 and will be adopted by us in the first quarter of fiscal 2010. We are currently evaluating the potential impact, if any, of the adoption of EITF 08-7 on our consolidated results of operations and financial condition.
In December 2008, the FASB issued FSP SFAS 132(R)-1, "Employer's Disclosures about Postretirement Benefit Plan Assets" ("FSP SFAS 132(R)-1"). FSP SFAS 132(R)-1 requires additional disclosures about assets held in an employer's defined benefit pension or other postretirement plan. FSP SFAS 132(R)-1 is effective for fiscal years ending after December 15, 2009 and will be adopted by us in the first quarter of fiscal 2010. We will present the required disclosures in the prescribed format on a prospective basis upon adoption. We do not expect the adoption of FSP SFAS 132(R)-1 will have a material effect on our consolidated results of operations and financial condition.
In April 2009, the FASB issued FSP SFAS 157-4, "Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly" ("FSP SFAS 157-4"). FSP SFAS 157-4 provides additional guidance for estimating fair value when the volume and level of activity for the asset or liability have significantly decreased. It also includes guidance on identifying circumstances that indicate a transaction is not orderly. FSP SFAS 157-4 is effective for interim and annual reporting periods ending after June 15, 2009 on a prospective basis and will be adopted by us in the third quarter of fiscal 2009. We do not expect the adoption of FSP SFAS 157-4 will have a material effect on our consolidated results of operations and financial condition.
In April 2009, the FASB issued FSP SFAS 115-2 and SFAS 124-2, "Recognition and Presentation of Other-Than-Temporary Impairments" ("FSP SFAS 115-2 and SFAS 124-2"). FSP SFAS 115-2 and SFAS 124-2 amends the other-than-temporary impairment guidance in U.S. GAAP for debt securities to make the guidance more operational and to improve the presentation and disclosure of other-than-temporary impairments on debt and equity securities in the financial statements. FSP SFAS 115-2 and SFAS 124-2 is effective for interim and annual reporting periods ending after June 15, 2009 and will be adopted by us in the third quarter of fiscal 2009. We do not expect the adoption of FSP SFAS 115-2 and SFAS 124-2 will have a material effect on our consolidated results of operations and financial condition.
In April 2009, the FASB issued FSP SFAS 107-1 and APB 28-1, "Interim Disclosures about Fair Value of Financial Instruments" ("FSP SFAS 107-1 and APB 28-1"). This FSP amends FASB Statement No. 107, "Disclosure about Fair Value of Financial Instruments," to require disclosures about fair value of financial instruments for interim reporting periods of publicly traded companies as well as in annual financial statements. This FSP also amends APB Opinion No. 28, "Interim Financial Reporting," to require disclosures in summarized financial information at interim reporting periods. FSP SFAS 107-1
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and APB 28-1 is effective for interim reporting periods ending after June 15, 2009 and will be adopted by us in the third quarter of fiscal 2009. We do not expect the adoption of FSP SFAS 107-1 and APB 28-1 will have a material effect on our consolidated results of operations and financial condition.
In April 2009, the FASB issued FSP SFAS 141(R)-1, "Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies" ("FSP SFAS 141(R)-1"). FSP SFAS 141(R)-1 addresses application issues on initial recognition and measurement, subsequent measurement and accounting, and disclosure of assets and liabilities arising from contingencies in a business combination. FSP SFAS 141(R)-1 is effective for assets or liabilities arising from contingencies in business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008, and will be adopted by us in the first quarter of fiscal 2010. We are evaluating the impact the adoption of FSP SFAS 141(R)-1 will have on our consolidated results of operations and financial condition, which will be largely dependent on the size and nature of the business combinations completed after the adoption of this statement.
In May 2009, the FASB issued SFAS No. 165, "Subsequent Events" ("SFAS 165"). SFAS 165 is intended to establish general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or are available to be issued. It requires the disclosure of the date through which an entity has evaluated subsequent events and the basis for that date, that is, whether that date represents the date the financial statements were issued or were available to be issued. SFAS 165 is effective for interim or annual financial periods ending after June 15, 2009 and will be adopted by us in the third quarter of fiscal 2009. We do not expect the adoption of SFAS 165 will have a material effect on our consolidated results of operations and financial condition.
Recently Adopted Accounting Pronouncements
During the first six months of fiscal 2009, we adopted the following accounting standards, none of which had a material effect on our consolidated results of operations during the period or financial condition at the end of the period:
See Note 8 to the Consolidated Condensed Financial Statements in Item 1, which is incorporated herein by reference, for the effect of applying SFAS 157, FSP SFAS 157-1, FSP SFAS 157-2, FSP SFAS 157-3 and SFAS 159.
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See Note 9 to the Consolidated Condensed Financial Statements in Item 1, which is incorporated herein by reference, for the effect of applying SFAS 161.
RESULTS OF OPERATIONS
Results of operations in dollars and as a percentage of net revenue were as follows:
|
Three months ended April 30 | Six months ended April 30 | |||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
2009 | 2008 | 2009 | 2008 | |||||||||||||||||||||
|
Dollars | % of Revenue |
Dollars | % of Revenue |
Dollars | % of Revenue |
Dollars | % of Revenue |
|||||||||||||||||
|
In millions |
||||||||||||||||||||||||
Net revenue |
$ | 27,351 | 100.0 | % | $ | 28,262 | 100.0 | % | $ | 56,151 | 100.0 | % | $ | 56,729 | 100.0 | % | |||||||||
Cost of sales(1) |
20,919 | 76.5 | % | 21,205 | (2) | 75.0 | % | 42,988 | 76.6 | % | 42,649 | (2) | 75.2 | % | |||||||||||
Gross profit |
6,432 | 23.5 | % | 7,057 | 25.0 | % | 13,163 | 23.4 | % | 14,080 | 24.8 | % | |||||||||||||
Research and development |
716 | 2.6 | % | 908 | 3.2 | % | 1,448 | 2.6 | % | 1,806 | 3.2 | % | |||||||||||||
Selling, general and administrative |
2,880 | 10.5 | % | 3,331 | (2) | 11.8 | % | 5,773 | 10.3 | % | 6,627 | (2) | 11.7 | % | |||||||||||
Amortization of purchased intangible assets |
380 | 1.4 | % | 211 | 0.8 | % | 792 | 1.4 | % | 417 | 0.7 | % | |||||||||||||
In-process research and development charges |
| | 13 | | 6 | | 13 | | |||||||||||||||||
Restructuring |
94 | 0.3 | % | 4 | | 240 | 0.4 | % | 14 | | |||||||||||||||
Acquisition-related charges |
75 | 0.3 | % | | | 123 | 0.2 | % | | | |||||||||||||||
Earnings from operations |
2,287 | 8.4 | % | 2,590 | 9.2 | % | 4,781 | 8.5 | % | 5,203 | 9.2 | % | |||||||||||||
Interest and other, net |
(180 | ) | (0.7 | )% | 3 | | (412 | ) | (0.7 | )% | 75 | 0.1 | % | ||||||||||||
Earnings before taxes |
2,107 | 7.7 | % | 2,593 | 9.2 | % | 4,369 | 7.8 | % | 5,278 | 9.3 | % | |||||||||||||
Provision for taxes |
391 | 1.4 | % | 536 | 1.9 | % | 799 | 1.4 | % | 1,088 | 1.9 | % | |||||||||||||
Net earnings |
$ | 1,716 | 6.3 | % | $ | 2,057 | 7.3 | % | $ | 3,570 | 6.4 | % | $ | 4,190 | 7.4 | % | |||||||||
Net Revenue
The components of the weighted net revenue decline as compared to the prior-year periods were as follows:
|
Three months ended April 30, 2009 |
Six months ended April 30, 2009 |
|||||
---|---|---|---|---|---|---|---|
|
Percentage Points |
||||||
Personal Systems Group |
(6.6 | ) | (6.8 | ) | |||
Imaging and Printing Group |
(6.1 | ) | (5.5 | ) | |||
Enterprise Storage and Servers |
(4.7 | ) | (3.9 | ) | |||
HP Software |
(0.6 | ) | (0.4 | ) | |||
HP Financial Services |
(0.2 | ) | (0.1 | ) | |||
Services |
15.0 | 15.7 | |||||
Corporate Investments/Other |
| | |||||
Total HP |
(3.2 | ) | (1.0 | ) | |||
For the three and six months ended April 30, 2009, the global slowdown of IT and consumer spending continued to impact our segments. Net revenue decreased 3.2% for the three months ended April 30, 2009 from the prior-year comparable period (increased 2.8% on a constant currency basis), and decreased 1.0% for the first six months of fiscal 2009 from the prior-year comparable period (increased 3.5% on a constant currency basis). For both periods, the Services segment contributed favorably to the total HP net revenue change primarily as a result of the EDS acquisition. U.S. net revenue increased 17% to $9.9 billion for the second quarter of fiscal 2009, while net revenue from
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outside of the United States decreased 12% to $17.5 billion. U.S. net revenue increased 16% to $19.9 billion for the first half of fiscal 2009, while net revenue from outside of the United States decreased 8% to $36.2 billion. The increase in U.S. net revenue for both periods was primarily a result of the acquisition of EDS.
The PSG net revenue decline in the three and six months ended April 30, 2009 was primarily the result of the overall slowdown in the global economy. PSG unit volumes were approximately flat for the second quarter of fiscal 2009 and declined by 2% for the first half of fiscal 2009, and average selling prices ("ASPs") declined in both consumer clients and in commercial clients in those periods.
For the three and six months ended April 30, 2009, IPG experienced net revenue declines in the commercial and consumer hardware business units and the supplies business unit. Unit volume declines across each of the business units were a result of the softness in both the business and consumer demand environments.
The net revenue decline in ESS for the three and six months ended April 30, 2009 was driven by declines in industry standard servers, business critical systems and storage. The revenue declines were due primarily to the economic slowdown and the overall weak demand environment. For the second quarter and first half of fiscal 2009, industry standard servers experienced both unit volume and average unit price declines and was the largest business unit contributor to the decline in ESS revenue.
For the three and six months ended April 30, 2009, HP Software experienced net revenue declines in both the Business Technology Optimization ("BTO") and the other software business unit due primarily to revenue declines in licenses and services, the effect of which was partially offset by increases in support revenue.
The HPFS net revenue decrease for the three and six months ended April 30, 2009 was due to unfavorable currency movements.
The net revenue increase in Services in the three and six months ended April 30, 2009 was due primarily to revenue increases in infrastructure technology outsourcing, application services and business process outsourcing primarily as a result of our acquisition of EDS in the fourth quarter of fiscal 2008. Net revenue in technology services declined for both periods due primarily to unfavorable currency impacts, the effect of which was partially offset by growth in extended warranty.
Net revenue in Corporate Investments and Other declined in the second quarter and first six months of fiscal 2009 primarily as a result of a decline in sales of network infrastructure products as a result of the slowing IT spend environment.
Gross Margin
The weighted components of the gross margin decline as compared to the prior-year periods were as follows:
|
Three months ended April 30, 2009 |
Six months ended April 30, 2009 |
|||||
---|---|---|---|---|---|---|---|
|
Percentage Points |
||||||
Enterprise Storage and Servers |
(1.3 | ) | (1.1 | ) | |||
Services |
(0.4 | ) | (0.7 | ) | |||
Corporate Investments/Other |
(0.1 | ) | | ||||
HP Software |
(0.1 | ) | | ||||
Personal Systems Group |
0.4 | 0.4 | |||||
Imaging and Printing Group |
| | |||||
HP Financial Services |
| | |||||
Total HP |
(1.5 | ) | (1.4 | ) | |||
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Total company gross margin decreased for both the second quarter and first six months of fiscal 2009 as compared to the same periods in the prior year.
The decrease in ESS gross margin for the three and six months ended April 30, 2009 was due primarily to unfavorable currency impacts in all of the business units, product mix shifts and competitive pricing.
Services gross margin increased slightly for the three months ended April 30, 2009 due to improved cost management, the effect of which was partially offset by the mix effect from the acquisition of the EDS business, which has lower gross margins. Services gross margin decreased slightly for the six months ended April 30, 2009 due to the mix effect from the acquisition of EDS, the effect of which was partially offset by second quarter cost improvements.
Gross margin in Corporate Investments and Other declined in the three and six months ended April 30, 2009 as a result of a unit volume decline in the sale of network infrastructure products.
The improvements in HP Software gross margin for the three and six months ended April 30, 2009 resulted primarily from a favorable revenue mix with more higher-margin support revenue and less lower-margin services revenue, the effect of which was partially offset by lower license mix.
PSG gross margin declined in the second quarter and first half of fiscal 2009. The gross margin decline in PSG for both periods was the result primarily of ASPs declining at a faster pace than component costs and a mix shift towards lower-end products, the effect of which was partially offset by lower warranty and supply chain costs.
The increases in IPG gross margin for the three and six months ended April 30, 2009 resulted primarily from an increase in the supplies mix and supplies price increases, the effect of which was partially offset by hardware margin declines.
The HPFS gross margin decline for the three and six months ended April 30, 2009 was due primarily to unfavorable currency movements and lower remarketing and buyout margins. The HPFS gross margin decline for the six months ended April 30, 2009 was also due to higher bad debt expenses.
Operating Expenses
Research and Development
Total research and development ("R&D") expense decreased in the second quarter and first half of fiscal 2009 as compared to the prior-year periods due primarily to favorable currency impacts related to the movement of the dollar against the euro as well as effective cost controls. The decrease in R&D expense in the first half of fiscal 2009 was also due to lower compensation expense. For the three and six months ended April 30, 2009, R&D expense as a percentage of net revenue decreased for IPG and increased for HP Software and Corporate Investments. For all the other remaining segments, R&D expense as a percentage of net revenue remained approximately flat for both periods.
Selling, General and Administrative
Selling, general and administrative ("SG&A") expense decreased in the three and six months ended April 30, 2009 from the corresponding prior-year periods, due primarily to favorable currency impacts related to the movement of the dollar against the euro as well as effective cost management, the effect of which was partially offset by additional expenses related to the EDS acquisition and higher bad debt expense. As a percentage of net revenue, except for ESS and Corporate Investments, each of our other segments experienced a year-over-year decrease in SG&A expense for the three months ended April 30, 2009. For the six months ended April 30, 2009, SG&A expense as a percentage of net revenue remained approximately flat for ESS, increased for Corporate Investments, and decreased for each of our other segments.
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Amortization of Purchased Intangible Assets
The increase in amortization expense for the three and six months ended April 30, 2009 as compared to the same periods in the prior year was due primarily to amortization expenses related to the EDS acquisition, as well as other acquisitions made subsequent to the second quarter of fiscal 2008.
In-Process Research and Development Charges
For the three months ended April 30, 2009, we had no in-process research and development ("IPR&D") charges. For the six months ended April 30, 2009 we recorded $6 million of IPR&D charges. For both the three and six months ended April 30, 2008, we recorded $13 million of IPR&D charges. IPR&D charges are incurred in connection with our acquisitions.
Restructuring
For the three months ended April 30, 2009, we recorded $94 million in restructuring charges associated primarily with severance and facility costs related to the fiscal 2008 restructuring plan. Restructuring charges for the six months ended April 30, 2009 were $240 million, which included $243 million for severance and facility costs related to the fiscal 2008 restructuring plan and a reduction of $3 million related to adjustments to other restructuring plans.
Restructuring charges for the three and six months ended April 30, 2008 were $4 million and $14 million, respectively. These charges were due primarily to adjustments for severance and facility costs associated with restructuring programs implemented in fiscal years 2005, 2003, 2002 and 2001, as well as in relation to our acquisition of Mercury Interactive Corporation in November 2006.
Workforce Rebalancing
As part of our ongoing business operations, we incurred workforce rebalancing charges for severance and related costs within certain business segments during the first six months of fiscal 2009. Workforce rebalancing activities are considered part of normal operations as we continue to optimize our cost structure. Workforce rebalancing costs are included in our business segment results, and we expect to incur additional workforce rebalancing costs in the future.
Acquisition-related Charges
In the three and six months ended April 30, 2009, we recorded acquisition-related charges of $75 million and $123 million, respectively. These charges were related primarily to retention bonuses, consulting and integration costs associated with the EDS acquisition.
Interest and Other, Net
For the three and six months ended April 30, 2009, interest and other, net decreased by $183 million and $487 million, respectively, as compared to the corresponding periods in fiscal 2008. The decreases in both periods were driven primarily by higher interest expenses due to higher average debt balances, which were principally related to the EDS acquisition, and lower interest income as a result of lower interest rates. Additionally, the prior-year periods benefited from higher gains from the sale of real estate. For the six months ended April 30, 2009, the decrease in interest and other, net was also due to higher currency losses on balance sheet remeasurement items.
Provision for Taxes
Our effective tax rate was 18.6% and 20.7% for the three months ended April 30, 2009 and April 30, 2008, respectively, and 18.3% and 20.6% for the six months ended April 30, 2009 and April 30, 2008, respectively. Our effective tax rate generally differs from the U.S. federal statutory rate
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of 35% due to favorable tax rates associated with certain earnings from our operations in lower-tax jurisdictions throughout the world. We have not provided U.S. taxes for such earnings because we plan to reinvest those earnings indefinitely outside the United States.
There were no material discrete items affecting the tax rate for the three and six months ended April 30, 2009.
In the three and six months ended April 30, 2008, we recorded discrete events with a net tax benefit of $58 million and $47 million, respectively, decreasing the effective tax rate. These amounts include reductions to net income tax accruals of $224 million as a result of settlements with tax authorities regarding certain transfer pricing issues for fiscal years 1993 through 2005. These favorable adjustments were offset in part by an increase of $167 million to deferred tax liabilities related to earnings outside the United States. We recorded other miscellaneous discrete events that resulted in a net tax benefit of $1 million and a net tax expense of $10 million for the three and six months ended April 30, 2008, respectively.
Segment Information
A description of the products and services for each segment can be found in Note 17 to the Consolidated Condensed Financial Statements. Future changes to this organizational structure may result in changes to the business segments disclosed.
Technology Solutions Group
Services, ESS and HP Software are structured beneath TSG. The results of the business segments of TSG are described in more detail below.
Services
As a result of the acquisition of EDS, in the first quarter of fiscal 2009, we renamed our services segment and reorganized the business units within that segment to better align them to our enhanced services portfolio. The business reorganization resulted in three new business units: application services, infrastructure technology outsourcing and business process outsourcing. As part of this reorganization, the businesses included in the former consulting and integration business unit were divided among the application services and technology services business units and the HP Software segment. In addition, the businesses included in the former outsourcing services business unit were divided among the infrastructure technology outsourcing and business process outsourcing business units. Further, the managed print services offering under technology services was moved to IPG.
The combined segment results below refer to the results of our services business for the three and six months ended April 30, 2008 combined with the EDS results for the three and six months ended March 31, 2008. The combined segment results are presented for informational purposes only and are
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not indicative of the results of operations that would have been achieved had the businesses been operated together during that period.
|
Three months ended April 30 | |||||||||||||||
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|
2009 | Historical Results 2008(1) |
% Increase |
Combined Segment Results 2008(2) |
% (Decrease) Increase |
|||||||||||
|
In millions |
In millions |
|
In millions |
|
|||||||||||
Net revenue |
$ | 8,488 | $ | 4,262 | 99.2 | % | $ | 9,627 | (11.8 | )% | ||||||
Earnings from operations |
$ | 1,172 | $ | 507 | 131.2 | % | $ | 604 | 94.0 | % | ||||||
Earnings from operations as a % of net revenue |
13.8 | % | 11.9 | % | 6.3 | % |
|
Six months ended April 30 | |||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|
2009 | Historical Results 2008(1) |
% Increase |
Combined Segment Results 2008(2) |
% (Decrease) Increase |
|||||||||||
|
In millions |
In millions |
|
In millions |
|
|||||||||||
Net revenue |
$ | 17,234 | $ | 8,314 | 107.3 | % | $ | 19,511 | (11.7 | )% | ||||||
Earnings from operations |
$ | 2,295 | $ | 1,006 | 128.1 | % | $ | 1,531 | 49.9 | % | ||||||
Earnings from operations as a % of net revenue |
13.3 | % | 12.1 | % | 7.8 | % |
Historical Results
Services net revenue increased 99.2% (108.7% when adjusted for currency) and increased 107.3% (114.9% when adjusted for currency) for the three and six months ended April 30, 2009, respectively, as compared to the same periods in fiscal 2008 due primarily to the EDS acquisition. Services net revenue for the six months ended April 30, 2009 includes revenue from infrastructure technology outsourcing, technology services, application services and business process outsourcing, which accounted for approximately 45%, 28%, 18% and 9% of revenues, respectively.
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The components of the weighted net revenue growth as compared to the prior-year periods by business unit were as follows:
|
Three months ended April 30, 2009 |
Six months ended April 30, 2009 |
|||||
---|---|---|---|---|---|---|---|
|
Percentage Points |
||||||
Infrastructure technology outsourcing |
59.2 | 62.9 | |||||
Application services |
27.2 | 29.4 | |||||
Business process outsourcing |
15.7 | 16.6 | |||||
Technology services |
(2.9 | ) | (1.6 | ) | |||
Total Services |
99.2 | 107.3 | |||||
Net revenue in infrastructure technology outsourcing, application services and business process outsourcing for both periods increased due primarily to the EDS acquisition. Further, net revenue in infrastructure technology outsourcing for both periods increased due to new contract signings, the effect of which was partially offset by unfavorable currency impacts. Net revenue in application services and business process outsourcing for both periods was partially offset by unfavorable currency impacts and slowing demand in the current economic environment. Net revenue in technology services for both periods declined due primarily to unfavorable currency impacts, the effect of which was partially offset by growth in extended warranty.
Services earnings from operations as a percentage of net revenue increased by 1.9 percentage points and 1.2 percentage points for the three and six months ended April 30, 2009, respectively. The operating margin for both periods increased due primarily to a decrease in operating expenses as a percentage of revenue. There was also a slight increase in gross margin for the three months ended April 30, 2009. The increase in operating margin for the six months ended April 30, 2009 was partially offset by a slight decrease in gross margin that period. The operating expense for both periods declined as a result of continued focus on cost structure improvements from overall cost controls. The increase in gross margin for the three months ended April 30, 2009 was due to improved cost management, the effect of which was partially offset by the mix effect from the acquisition of the EDS business, which has lower gross margins. The decline in gross margin for the six months ended April 30, 2009 was attributable to the mix effect from the acquisition of EDS, the effect of which was partially offset by second quarter cost improvements.
Combined Segment Results
Services net revenue decreased 11.8% (0.7% when adjusted for currency) and decreased 11.7% (2.4% when adjusted for currency) for the three and six months ended April 30, 2009, respectively, as compared to the prior period combined segment results presented in the table above. Services net revenue for the six months prior period combined segment results includes revenue from infrastructure technology outsourcing, technology services, application services and business process outsourcing, which accounted for approximately 46%, 26%, 19% and 9% of revenues, respectively. The net revenue decline was due primarily to an unfavorable currency impact, deferred revenue write-down resulting from purchase accounting, and lower add-on business due to the slowing economic environment. Services net revenue for the three months ended April 30, 2009 as compared to the three months prior period combined segment results reflects a weighted net revenue decline in the infrastructure technology outsourcing, application services, business process outsourcing and technology services business units of 5.9%, 3.1%, 1.5% and 1.3%, respectively. Further, Services net revenue for the six months ended April 30, 2009 as compared to the six month prior period combined segment results reflects a weighted net revenue decline in the infrastructure technology outsourcing, application services, business process outsourcing and technology services business units of 5.9%, 3.4%, 1.7% and 0.7%, respectively.
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Services earnings from operations as a percentage of net segment revenue increased by 7.5 percentage points and 5.5 percentage points for the three and six months ended April 30, 2009, respectively, as compared to the prior period combined segment results. The operating margin for both periods increased as a result of an increase in gross margin and a decrease in operating expenses as a percentage of net revenue. The gross margin for both periods increased due primarily to the continued focus on cost structure improvements, including delivery efficiencies and cost controls, and to acquisition synergies. The continued improvements in our operating expense structure contributed to the decline in operating expenses as a percentage of net revenue for both periods compared to the prior year.
Enterprise Storage and Servers
|
Three months ended April 30 | |||||||||
---|---|---|---|---|---|---|---|---|---|---|
|
2009 | 2008 | % Decrease | |||||||
|
In millions |
|||||||||
Net revenue |
$ | 3,456 | $ | 4,780 | (27.7 | )% | ||||
Earnings from operations |
$ | 250 | $ | 655 | (61.8 | )% | ||||
Earnings from operations as a % of net revenue |
7.2 | % | 13.7 | % |
|
Six months ended April 30 | |||||||||
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|
2009 | 2008 | % Decrease | |||||||
|
In millions |
|||||||||
Net revenue |
$ | 7,404 | $ | 9,600 | (22.9 | )% | ||||
Earnings from operations |
$ | 655 | $ | 1,328 | (50.7 | )% | ||||
Earnings from operations as a % of net revenue |
8.8 | % | 13.8 | % |
The components of the weighted net revenue decline as compared to the prior-year periods by business unit were as follows:
|
Three months ended April 30, 2009 |
Six months ended April 30, 2009 |
|||||
---|---|---|---|---|---|---|---|
|
Percentage Points |
||||||
Industry standard servers |
(17.4 | ) | (15.6 | ) | |||
Business critical systems |
(5.6 | ) | (4.3 | ) | |||
Storage |
(4.7 | ) | (3.0 | ) | |||
Total ESS |
(27.7 | ) | (22.9 | ) | |||
ESS net revenue decreased 27.7% (21.0% when adjusted for currency) and 22.9% (17.7% when adjusted for currency) for the second quarter and first six months of fiscal 2009, respectively, as compared to the same periods in fiscal 2008. The revenue declines were due primarily to the economic slowdown and overall weak demand environment. Industry standard servers ("ISS") net revenue declined 29% and 26% for the second quarter and first six months of fiscal 2009, respectively, as compared to the same periods of fiscal 2008 with declines in both unit volume and average unit prices. Total ESS blades revenue declined by 12% and 4% for the second quarter and first six months of fiscal 2009, respectively, when compared to the prior-year periods. Business critical systems net revenue decreased 29% and 23% for the second quarter and first six months of fiscal 2009, respectively, compared to the prior-year periods driven by the planned phase-out of the PA-RISC and Alpha Server product lines and a decline in Integrity server revenue due to weaker market conditions. Storage net revenue declined 22% and 14% for the second quarter and first six months of fiscal 2009, respectively, compared to the prior-year periods, due to a decline in disk and tape products as a result of a weaker demand environment, the effects of which were partially offset by revenue resulting from the acquisition of Lefthand Networks.
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ESS earnings from operations as a percentage of net revenue for the second quarter and first six months of fiscal 2009 decreased by 6.5 and 5.0 percentage points, respectively, compared to the same periods in fiscal 2008, due to decreases in gross margin. Gross margin decreased due primarily to unfavorable currency impacts in all the business units, product mix shifts and competitive pricing. Gross margin was also unfavorably impacted by a patent litigation settlement, which occurred in the second quarter of fiscal 2009. Operating expense as a percentage of net revenue in the second quarter and first six months of fiscal 2009 remained flat when compared to the same periods in fiscal 2008.
HP Software
|
Three months ended April 30 | |||||||||
---|---|---|---|---|---|---|---|---|---|---|
|
2009 | 2008 | % (Decrease) Increase |
|||||||
|
In millions |
|||||||||
Net revenue |
$ | 880 | $ | 1,039 | (15.3 | )% | ||||
Earnings from operations |
$ | 157 | $ | 104 | 51.0 | % | ||||
Earnings from operations as a % of net revenue |
17.8 | % | 10.0 | % |
|
Six months ended April 30 | |||||||||
---|---|---|---|---|---|---|---|---|---|---|
|
2009 | 2008 | % (Decrease) Increase |
|||||||
|
In millions |
|||||||||
Net revenue |
$ | 1,758 | $ | 1,986 | (11.5 | )% | ||||
Earnings from operations |
$ | 297 | $ | 153 | 94.1 | % | ||||
Earnings from operations as a % of net revenue |
16.9 | % | 7.7 | % |
The components of the weighted net revenue decline as compared to the prior-year periods by business unit were as follows:
|
Three months ended April 30, 2009 |
Six months ended April 30, 2009 |
|||||
---|---|---|---|---|---|---|---|
|
Percentage Points |
||||||
Business technology optimization |
(9.8 | ) |   |