HPE could be an interesting tech play for value investors

November 26, 2018

HPE could be an interesting tech play for value investors

Market volatility since the beginning of October has pushed the entire market down near to its 52-week low, which was last seen in April of this year. That broad-based move, which puts the S&P 500 Index back into correction territory, has put a number of sectors near or into their own bear market territory. Tech stock have been some of the biggest headline generators over the last several weeks, and by some measurements could be considered one of the most bearish sectors in the market right now. If you’re focusing on short-term trading strategies, that means that looking for bullish trades on tech stocks is probably a losing game; but if you’re willing to work with a long-term perspective, and to look for stocks that could offer an interesting value proposition, this is a sector whose current bearish momentum could also represent a smart opportunity.

Some of the questions about the tech sector right now are significant, and I don’t think they are likely to be answered quickly. Trade tensions between the U.S. and China have kept pressure on the sector all year long, and there still doesn’t seem to an end in sight to the pall that has cast on any company with any kind of hint of exposure to that part of the world. Pricing pressures in storage technology – specifically memory and drive storage – attributed to oversupply as well as increasing competition in the segment – are another concern that seems to be having something of a ripple effect on companies that compete in the consumer and enterprise storage space. In a broader sense, some disappointing recent numbers about the latest iPhone release are leading a lot of investors to wonder if that business is recent the limits of its growth potential. Add to those sector-specific questions additional uncertainty about whether the economy’s current health is finally reaching its nadir and could start to taper off, or whether increasing interest rates are finally going to bring the longest period of economic expansion in memory to an end, and it isn’t all that surprising to see the market, and the tech sector specifically, threatening to turn into a more serious downward trend.



What do you do as an investor to keep your money working for you when the market looks like it could be getting riskier? Some folks prefer to take a completely defensive approach, meaning that they’ll take advantage of every opportunity to close out the long positions they have, and stop taking on new ones, until they see indications that the broad market is starting to stabilize, or even beginning to pick up new bullish momentum. The advantage that approach has is that if you’re right, and the market’s current correction is going to turn into a much longer downward trend, or out right bear market, sitting in cash means that you aren’t going to lose money, while those who do decide to keep their money in the market are much more likely to see the stocks they are holding drop well below the prices they bought them at. Depending on where they got them, a truly extended bear market could mean those stocks could take years to recover back to the levels they were at they got in.

The disadvantage, however is that sitting in cash means that you have immediately limited the possibility of future growth – at least for as long as you stay in cash. Consider that most savings accounts, CD’s or money markets are offering yields below 3% right now, and that means that the longer you sit in cash, the more you’re really allowing your buying to deteriorate. Keeping your money in the market means that you’re still giving your money a chance to work for you – because it isn’t a given that every stock in the market is going to keep going down, even when the broad is market is overwhelmingly bearish. There are always pockets of opportunity to be found, in every industry and sector of the market.

When it comes to technology, I like the idea of looking for value in companies whose business model might not put them on the cutting edge of innovation, but does keep them in the segments that are going to keep everything else going. Enterprise technology refers to hardware, software, and technology services and solutions that drive business, and even if the broad economy falters, the truth is that technology’s place in the world’s economic fabric isn’t going away. Hewlett Packard Enterprise Co (HPE) is an example of a company that serves this specific segment, and that I think represents a smart tech play, even if the economy and the broad market turns bearish. The company has an overall solid fundamental profile, and even more importantly, a value proposition that, even with a conservative long-term price target, offers a nice opportunity right now.



Fundamental and Value Profile

Hewlett Packard Enterprise Company is a provider of technology solutions. The Company’s segments include: Enterprise Group, Software, Financial Services and Corporate Investments. The Enterprise Group segment provides its customers with the technology infrastructure they need to optimize traditional information technology (IT). The Software segment allows its customers to automate IT operations to simplify, accelerate and secure business prHPEesses and drives the analytics that turn raw data into actionable knowledge. The Financial Services segment enables flexible IT consumption models, financial architectures and customized investment solutions for its customers. The Corporate Investments segment includes Hewlett Packard Labs and certain business incubation projects, among others. HPE has a current market cap of $21.4 billion.

  • Earnings and Sales Growth: Over the past year, earnings increased almost 42%, while sales declined about 5.5%. In the last quarter, earnings increased about 2.9.5%, while sales grew by 4%. The company operates with a margin profile that declined from 10.4% in the past twelve months to 5.8% over the last quarter.
  • Free Cash Flow: HPE’s Free Cash Flow is modest, at about $440 million. On a Free Cash Flow Yield basis, that translates to a mostly unremarkable 2.05%.
  • Debt to Equity: HPE has a debt/equity ratio of .42, which is a conservative number. Their balance sheet shows $5.3 billion in cash against $9.9 billion in long-term debt. Their balance sheet indicates their operating profits are adequate to service their debt, with healthy liquidity as well.
  • Dividend: HPE pays a dividend of $.45 per share, which translates to an annual yield of about 3.09% at the stock’s current price.
  • Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value, which for HPE is $15.94 per share. At HPE’s current price, that translates to a Price/Book Ratio of .91. The stock has actually only been trading publicly for about three years, which means that historical average ratios are less reliable; in this case I like to use the industry average as a reference point. The industry average Price/Book ratio is 2.7 and puts the top end of the stock’s long-term price target at around $43 per share. I think that is an extremely overoptimistic target, given that the stock’s all-time high is only at around $19 per share; however a better measurement comes using the stock’s Price/Cash flow ratio, which is currently trading about 28.5% below the industry average Price/Cash flow ratio. That translates to a more conservative, but still attractive target prices at around $18.50 per share.



Technical Profile

Here’s a look at the stock’s latest technical chart.

 

  • Current Price Action/Trends and Pivots: HPE’s downward slide since January is easy to see, with most of the decline seen from its March peak at $19.50 to its July low, which the stock is very near to right now. If the stock breaks below its current support level, which is right around $14.50, it should find its next support between $12.50 and $13 per share. The stock would need to break above $16, to about $16.50, to confirm a reversal of its longer downward trend.
  • Near-term Keys: If you don’t mind being aggressive, and little bit speculative, there could be an opportunity to buy the stock or work with call options if it can bounce of support around $14.50 and push higher. In that case, be ready to take profits quickly between $15.50 and $16 per share. A bearish trade using put options or shorting the stock isn’t really a very practical trade unless it does actually break below its current support to around $14. I believe the best opportunity lies in the stock’s long-term value proposition, but given the overall bearish sentiment in the broad market and the sector, I think the stock could keep dropping, which just means that its value proposition is likely be even more attractive the longer you wait for signs the stock is actually about to reverse its downward trend.