Lew Platt’s Fix-IT Plan For Hewlett-Packard

For years, CEO Lewis E Platt has used his
annual management-review meeting to warn Hewlett-Packard Company’s executives not to get
sloppy. After all, the company was growing at more than 20% a year, making it the
fastest-growing $30 billion company in the US. It would be easy for giddy executives to
become less watchful. Sure enough, by last January’s meeting, the company had missed Wall
Street’s expectations for five straight quarters. So to kick off the weekend meeting at a
Monterey (California) hotel, Platt tried a different tactic. The normally amiable CEO
blasted his top 200-plus managers for shoddy execution, lax cost controls, and
overreliance on slow-growth markets.

Then, a steely Platt told them to write
down “two things you’ll do differently on Monday morning.” Since all the
managers had laptops, Platt got their plans immediately. And he didn’t like what he saw.
Disappointed, he laid into them the next day. “You guys just don’t get it, do
you?” Platt scolded. “I expect more coherent plans from you moving
forward,” recalls an attendee.

Falling Short
Now, Platt is facing similar
expectations from investors. Since mid-1996, after years of blowing away the most bullish
estimates, HP’s sales have settled below the 20% growth clip analysts had come to expect.
For the 1997 fiscal year, the company recorded a 12% revenue growth rate, down from 22%
the year before. Worse, earnings have zigzagged wildly as the company has struggled with
factors ranging from the Asian flu to erratic execution to falling prices for personal
computers and printers.

The latest example: Although sales growth
is back up-rising 16%, to $12 billion-HP shocked analysts with an 18% jump in operating
expenses and a 12% dip in earnings in the quarter ended on April 30. That, sent the stock
spiraling downward 26%, where it is stuck at around 60. Concedes Platt: “The
competition has closed the gap. Our execution just isn’t what it used to be.”

To be sure, HP remains a powerhouse by
almost any measure. Despite falling short of Wall Street’s expectations, the most recent
quarterly sales growth topped the rate of IBM, Sun Microsystems, and Compaq Computer. As
for earnings, which totaled $685 million in the quarter, HP has an insurance policy that
rivals envy: a $4 billion annual annuity in lucrative paper, ink, and toner cartridge
sales from its printer business, where it enjoys 50%-plus US. marketshare. And HP remains
a top player in most of its markets, including PCS, where it has vaulted from the 27th
place in 1992 to # 4 today.

Still, the company hasn’t come up with any
blockbuster innovations of late, long an HP hallmark. Without breakthrough products-which
typically command premium prices because competition is limited-the company is forced to
compete largely on price. “I look at HP as being in maintenance mode,” says
former # 2 Richard E Belluzzo, who left in January to run Silicon Graphics Inc. “HP
has got tremendous potential, people, technology, and a great brand, but there’s something
missing (that would) move the company to the next level.”

Indeed, Belluzzo had been pressing hard for
drastic change during his final months at HP. Former and current managers say this put him
at loggerheads with Platt, who wanted to move more slowly. Belluzzo, for example, pushed
to slash pricey overseas sales offices and divert investment from slower growth, old-line
HP businesses to invest in high-growth areas such as PCs, say current and former
executives. Platt complained to board members late last fall that Belluzzo’s
superaggressive efforts had become overly disruptive, they say. Platt won’t discuss
Belluzzo. “I’m not going down that rathole. It has nothing to do with the issues we
face as a company.”

Today, Platt is clearly focused on HP’s
future with a two-part fix-it plan firmly in motion. First, he needs to get HP’s house in
order by cutting costs and sharpening execution. Longer term, though, the 57-year-old CEO
wants to ensure growth by extending current businesses and creating brand new ones. To do
this, he is building on the belief of founders Bill Hewlett and David Packard that smart
people will do great things if given the independence and authority to make their own
decisions-fast. So Platt is easing back on corporate control of HP’s business units. He is
giving managers more freedom to define their own goals and policies.

Costly Discounts
But with freedom comes
accountability. Through new pay policies, Platt hopes to tie managers’ salary to the
performance of their units. Platt was a guinea pig for this last year, when the board
linked some 40% of his compensation to HP’s performance. Now, Platt has asked the board to
do the same for HP’s top 40 executives.

The company’s PC chief, Duane E Zitzner, is
adopting the same philosophy. Starting this quarter, Zitzner will award stock options to
managers based on revenue growth, as well as shareholder value. That way, employees will
not be tempted to offer unreasonable price breaks to make quota-a mistake that cost HP
dearly last quarter, when it offered discounts of up to 50% to keep business from rivals
such as Compaq. “We chased some deals that we shouldn’t have chased,” says
Zitzner. “You get so into the battle that you can lose perspective.”

Platt also is hacking away at the company’s
spiraling costs. He put out a call for a 5% cut in operating expenses-a pledge he made at
a May analysts’ meeting where he proclaimed: “I’m mad as hell, and I’m not going to
take it anymore.” Now, the newly-empowered division heads are responding quickly. The
personal computer division, which shocked people by losing an estimated $50 million on a
70% increase in unit sales, is out banging on suppliers for price breaks. “We saw
much more of a tough-guy attitude from HP within a week of the earnings
announcement,” says a top US supplier of HP’s PC unit. “They were saying: `It’s
a new era, and you better cut your prices or we’ll go somewhere else.'”

Ball And Chain
And then there’s Research and
Development (R&D), where the company spent $3 billion last year. In the past, each HP
unit kicked in a portion of sales to fund the company’s vaunted HP Labs. That’s fine for
high-margin businesses that need top-notch technology, but it’s a financial ball and chain
for the PC business, which must compete with the likes of Dell Computer Corp. The new lab
tab? HP businesses now pay the labs 8% of their R&D budget, a figure tailored to the
development needs of each division. “This is an example of Lew letting us run our own
businesses,” says Webb McKinney, who heads the consumer PC unit.

In the long run, though, Platt’s # 1 worry
is growth. In late 1997, Chief Financial Officer Robert P Wayman did a study of companies
generating $40 billion-plus in annual sales and found that they grow, on average, less
than a piddling 5%-not nearly enough to support HP’s shrinking margins. That lit a fire
under Platt, who is now trying to spark new innovation. One approach has been to create a
special unit to incubate promising new technology ideas. The first project is a new
computer display technology that Platt says could generate “billions” in sales.
HP has plenty of good ideas, but little to show for them. Consider networked printers. Few
analysts argue with HP’s claim that networked printers will one day replace pricey
copiers. The theory: Why should companies incur the high cost of copying and distributing
documents that may not even be read when they could be stored on high-speed printers and
printed out as needed? Boeing Co., for example, is moving to store its huge service
manuals online so that technicians can print just the parts they need.

Yet HP has made little headway pushing its
“distribute-and-print” vision, say analysts. Meanwhile, HP still hasn’t made
much of a dent on the Internet, a mark of shame for Silicon Valley’s granddaddy. Having
purchased VeriFone Inc., the leading manufacturer of credit-card readers and authorization
software, HP hopes to become a top ecommerce player by outfitting PCs with VeriFone’s
credit-card readers. This would allow cybershoppers a secure way to buy products or
download E-cash from home. So far, there’s a small pilot program with Citicorp in
Manhattan, but little other progress.

Photo Op
There has also been little
movement in Internet imaging. Analysts drool over the potential sales of printers, inks,
and computers if HP could accelerate development of technologies to let consumers and
corporations print documents such as coupons, articles, and annual reports right off the
Web. Many technical hurdles exist, but “you look to HP, as the overwhelming market
leader, to solve them,” says Deutsche Bank Securities analyst Michael K Kwatinetz.

The big digital photography initiation is
off to a slow start, too. While HP’s $400 PhotoSmart printer was the first machine capable
of matching a snapshot in image quality, HP has failed to follow up with an all-out
marketing blitz that could persuade consumers to give up their trusty old cameras. The
result: HP has sold fewer than 25000 PhotoSmart units since it hit the shelves a year ago,
says analyst Marco Boer with market researcher IT Strategies. Later this year, however,
the company is expected to roll out new products that let shutterbugs wirelessly zap their
digital shots from HP cameras to special HP printers-a departure from most other schemes,
which require a PC to do this.

Diary Of A Stumbling High-Tech Leader

NOVEMBER, 1995 With sales of printers and PCs booming,
CEO Lew Platt tells Wall Street HP will increase investment to sustain its 20%-plus

JULY, 1996 Third-quarter
year-over-year sales growth dips below 20% for the first time in years, and earnings
plunge by 26%-thanks mostly to a $150 million write-off in disk drives and margin pressure
in PCs and printers.

SPRING, 1997 While
belt-tightening keeps earnings up, sales growth falls to a dismal 5% in the second
quarter. Sales remain soft through the summer because of delays in the company’s high-end
servers and medical devices. Platt calls for cost-cutting, yet HP adds 2600 new employees
during its third quarter.

FALL, 1997 HP, the
laser-printer king, botches a product transition, leaving the company with almost no
inventory for months.

JANUARY, 1998 At a meeting
of general managers just days after the departure of # 2 Rick Belluzzo, Platt unveils a
unit to seed new business opportunities and demands better execution and cost controls.

MAY, 1998 The Asian
crisis, PC price wars, and rising expenses cause HP to warn of yet another disappointing
quarter. The stock drops 14% in one day, to 69, Platt cancels all new hiring, and cuts
discretionary spending.

Platt says give it time. He insists that HP
launched its digital photography business knowing camera makers had yet to come up with
digital gear offering the required image quality at a price most consumers could afford.
“We could be accused of developing some of these markets too early,” he says.

That’s about to change. In March, Platt
Okayed a plan to hatch a series of internal “software startups” to attack
promising cyberniches. Rather than get lost in HP’s sprawling software organization, these
units are off on their own. Staffers are compensated for attaining the same milestones
that venture capitalists demand of typical startups, such as delivering code on time or
attaining a key customer. On June 29, HP unveiled the first of these: HP OpenPix Image
Igniter, which makes software to let cybershoppers easily view and manipulate
high-resolution images. Says Platt: “If we see good ideas, we’ll fund them.”

Spotty Record
Platt must prove he will move
to turn these nascent efforts into big businesses capable of sustaining HP’s growth goals.
There are plenty of skeptics. “Under Lew’s leadership, there’s been an aversion to
risk,” says a former HP executive. “I can’t point to one big new business that
has been created since he’s been in place.” Argues Platt: “For those who say
we’re not attacking new kingdoms, look at PCS.”

HP’s Squeeze On Margins

1 1992
Total revenues:
$16.4 billion
Overall gross margin: 44.2%
Business Share
Of Revenues
Laser Printers15.9%43%
Services 14.0 NA
Test & Measurement
13.4 NA
Unix Computers 11.047
Printer Supplies 6.728
Ink-Jet Printers5.7 40
PCs 5.7 31
2 1998

Total revenues: $48.8 billion
Overall gross margin: 32.7%
Business Share
Of Revenues
Laser Printers 12.5% 39%
Services 12.1 NA
Test & Measurement
9.4 49
Unix Computers 11.1 46
Printer Supplies 13.3 33
Ink-Jet Printers 19.5 20
PCs 19.119
Other 3.0  

There are signs that HP may not have the
stomach for the new fast-growth, low-margin businesses that dominate high-tech these days.
Since its latest quarterly disappointment, the company has backed away from a 1997 pledge
to become the PC marketshare leader by 2001. "We’re not going to chase marketshare at
all costs," says PC Chief Zitzner.

Instead, some board members are quietly
wondering if PC sales are worth fighting for at all, admits Wayman. "This certainly
raises questions about how good (the PC) business is," he says. Platt disagrees. The
scrappy PC market is just the training ground HP needs to prove that big companies run as
fast as little ones. "We envision a model where most of the computer business looks
like the PC business," Platt says. "You can’t duck that. It’s the future."
Platt has to move boldly to make that future as bright as HP’s past.

pen.gif (928 bytes)PETER BURROWS,
in California.
Copyrighted BusinessWeek
July 20, 1998.

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