February 25, 2015 / 9:22 PM / 5 years ago

HP separation costs seen as warning flag by investors

SEATTLE (Reuters) - Hewlett-Packard Co (HPQ.N) shocked investors by putting a $2 billion-plus price tag on its planned separation into two companies and provided only scant evidence that its highly touted enterprise segment is on a growth track.

HP shares plummeted almost 10 percent on Wednesday, to below their level in October when the plan for a separation was announced.

HP, the world’s No. 2 PC maker, said on Tuesday it would spend $1.3 billion before the end of October on technology, lawyers, consultants and other separation expenses, plus another $500 million next fiscal year. There will be hundreds of millions of dollars in additional real estate and foreign tax costs.

“The underlying value of HP and the reason a lot of investors felt it was going to be relatively stable going into this split was because of the cash flow. You basically just lost your insurance policy. That opens up more risk around what happens after the split,” said Shannon Cross, managing director at Cross Research.

HP’s slow-growing but dependable PC and printing business - which will be known as HP Inc after the split - is the bedrock of the company’s strong free cash flow, which hit $9.3 billion last fiscal year.

After separation costs and the effects of the strong dollar, HP now expects only $3.5 billion to $4 billion of free cash flow this fiscal year, down from its forecast three months ago of $6.5 billion to $7 billion.

HP has pledged to investors that it will use at least half its free cash flow for share buybacks and dividends, but now much less will be available.

“One of the major catalysts behind the stock is its ability to use cash to buy shares and increase its dividend. This hurts the overall attractiveness of the post-split HP Inc shares,” said Daniel Morgan, a portfolio manager at Synovus Trust Co.

The split also was supposed to create a growth company in the form of Hewlett-Packard Enterprise, which will combine the services and software units, but that unit is growing profit only slightly faster than the old-line PC business. It faces stiff competition from the likes of International Business Machines Corp (IBM.N), Oracle Corp (ORCL.N) and others.

Still, on Tuesday it announced a 10-year, multi-billion-dollar outsourcing deal with Deutsche Bank.

“Investors are going to have to be a little bit patient,” said Angelo Zino, an analyst at Standard & Poor’s. “If you take the bigger picture I am optimistic.”

Reporting by Bill Rigby; Editing by Leslie Adler

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