Good day everyone and welcome to the First Quarter 2021 HP Inc. Earnings Conference Call. My name is Ailey and I'll be your conference moderator for today's call. At this time, all participants will be in listen-only mode. We will be facilitating a question-and-answer session towards the end of the conference. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes. I would now like to turn the call over to Beth Howe, Head of Investor Relations. Please go ahead.

Good afternoon everyone and welcome to HP's first quarter 2021 earnings conference call. With me today are Enrique Lores, HP's President and Chief Executive Officer; and Marie Myers, HP's Chief Financial Officer. Before handing the call over to Enrique, let me remind you that this call is being webcast. A replay of this webcast will be made available on our website shortly after the call for approximately one year. Earlier today, we issued our earnings release and we have posted the release and the accompanying slide presentation on our Investor Relations web page at investor.hp.com. As always, elements of this presentation are forward-looking and are based on our best view of the world and our businesses as we see them today. For more detailed information, please see disclaimers in the earnings materials relating to forward-looking statements that involve risks, uncertainties, and assumptions. For a discussion of these risks, uncertainties, and assumptions, please refer to HP's SEC reports including our most recent Form 10-K. HP assumes no obligation and does not intend to update any such forward-looking statements. We also note that the financial information discussed on this call reflects estimates based on information available now and could differ materially from the amounts ultimately reported in HP's Form 10-Q for the fiscal quarter ended January 31st, 2021 and HP's other SEC filings. During this webcast, unless otherwise specifically noted, all comparisons are year-over-year comparisons with the corresponding year ago period. For financial information that has been expressed on a non-GAAP basis, we've included reconciliations to the comparable GAAP information. Please refer to the tables and slide presentation accompanying today's earnings release for those reconciliations. And now, I'll turn it over to Enrique.

Thank you, Beth and thank you everyone for joining the call today. I hope you and your families are safe and well. HP had an exceptional start to the year with strong revenue and profit growth in Q1. We are benefiting from the strength of our portfolio and the diversity of our businesses. We continue to evolve our business model to meet changing customer needs, while expanding into adjacencies to grow our addressable market. And we are driving an aggressive transformation agenda by rigorously managing our costs, while investing to drive future growth. Simply put, we are doing what we said we would do and our strategy is working. Our Q1 results are impressive across many dimensions. We delivered strong topline growth with net revenue up 7% to $15.6 billion and balanced growth across personal systems and print. We delivered strong bottom-line growth with $295 million in non-GAAP operating profit dollar flow through and double-digit profit growth in both personal systems and print. We delivered non-GAAP net earnings of $1.2 billion, up 24% with $0.92 of non-GAAP diluted net earnings per share. This is up $0.27 compared to Q1 of last year. And finally, we delivered $908 million of free cash flow in the quarter. We also remain committed to a significant return of capital. We returned $1.6 billion to shareholders including $1.4 billion in share repurchases and $250 million in dividends. Over the last three quarters, we have returned $4.4 billion to shareholders and repurchased approximately 13% of our shares. At the onset of the pandemic, I told our teams that this is a time when strong companies find ways to emerge stronger. And last quarter results show that exactly what we are doing. HP's broad and differentiated portfolio and leadership across consumer and commercial markets make us more…

It's great to be with all of you today and I wanted to thank Enrique for his trusted me as his finance partner. I'm excited to take on the CFO role after more than two decades at HP. I'm looking forward to getting to know the investment community as I settle into my new role. It's clear that HP remains focused on executing each quarter, while also positioning the company for the future. And our results demonstrate this balance of delivering in the near-term, while investing in growth and leading through this dynamic environment. Q1 was a very strong quarter, we grew revenue non-GAAP operating profit dollars faster than revenue and non-GAAP EPS even faster. We are off to a strong start for the year. And overall, we are very pleased with our results. Now let's look at the details of the first quarter. Q1 net revenue was $15.6 billion up 7% both nominally and in constant currency. Regionally in constant currency, Americas increased 17%, EMEA increased 3% and APJ decreased 5%. Gross margin was 21.2% and up 1.6 points year-on-year. The increase was driven by favorable pricing and commodity costs in Personal Systems and favorable pricing in printing, particularly, in consumer hardware. Non-GAAP operating expenses were $1.8 billion, up $157 million. The increase in operating expenses was driven by investments to position for future growth and an increase in certain one-time expenses. Non-GAAP net OI&E expense was $63 million for the quarter, non-GAAP diluted net earnings per share increased 42% to $0.92 with a diluted share count of approximately 1.3 billion shares. Non-GAAP diluted net earnings per share excludes a net expense totaling $120 million, primarily related to restructuring and other charges, amortization of intangible assets, other tax adjustments and partially offset by non-operating retirement related credits. As a…

Thank you. We will now being the question-and-answer session. [Operator Instructions] Our first question today will come from Shannon Cross with Cross Research.

Thank you very much. And Marie, I just wanted to congratulate you on the new role. My question I'm going to -- it's a two-part question, so I'll just leave it to one question today. I was wondering, Enrique, can you talk a bit about sustainability and sort of beyond the quarter that you've guided to? And that's one of the big questions I think people have right now. Maybe if you can -- you put it to shortages in PCs lasting until third quarter. So maybe you can talk on the PC side a little bit about what you see long-term for the market? And what might support the PC business sort of in future quarters. And then, if you could turn to printing, if you can talk a bit about what Print Plus means for the long-term model? And how you see that impacting margins as well as discussing a bit, because I think maybe it's underappreciated how the shift to Inkjet is going to help margins long-term since you own the whole Inkjet stack and have to partner with Canon for laser. So if you could maybe address those two parts, that is my -- completes my question. Thanks.

Okay. Thank you Shannon and I will try to answer all your points. So let me start with sustainability of the momentum that we see. And I would say that, we are very optimistic about what we -- what are our expectations for the market for the coming quarters. We think that many of the underlying trends that are driving demand today are going to stay. I think the pandemic has made technology clear necessary for people to work to entertain to live. And this is going to continue to drive very strong demand for PCs and for home printers for the foreseeable future, but especially for PC. We also think that as offices will reopen. We are going to see an increase of demand on the PC space because will have to invest on PCs again to make their employees productive. And we are going to continue to see a shift towards notebooks that also helps on the demand side as the renewal cycles are shorter. We also think that the need to -- the hybrid model of working between office and home opens new opportunities for us on the printing side to offer new services create new services by combining both. So overall again, we see that this is creating an opportunity for us not only to leverage new opportunities, but really to continue to drive change and to continue to gain momentum. If I go now to the second part of your question on PCs, we expect to continue to see very strong demand for PCs in the coming quarters. And this strong demand is what is creating the supplies the component shortages that you were mentioning. We have provided strong guidance today both for the quarter and for the year. And this is based of course on the visibility that we have today for components what we think we are going to be able to hit, if we get more components we could do even better. And then your final question on Print. As you know we launched HP Plus during last quarter the reception has been very positive in terms of both adoption of the end-to-end model and also feedback from customers in terms of the value proposition and feedback from partners. So going I would say, we are optimistic about the results we have seen. And as you know we are going to expand into more countries and more categories during the coming months until we complete the rollout in the middle of 2022. You were also asking about the impact on margins. Let me start there and maybe Marie will complement that. Clearly we see a benefit from the mix moving into India later because as you know we end the full end-to-end system. But this quarter we are also seeing a strong benefit from pricing. Especially on hardware that is really helping to increase the profitability on print.

And yes. Thank you for your Shannon. Yes look we expect our print margins to remain strong throughout FY 2021 and we expect our operating dollars to grow an operating profit rate to be at the higher end of the 16% to 18% range for 2021. And in Q2 we'd expect to be above the range as well.

And our next question will come from Katy Huberty with Morgan Stanley.

Yes, thank you. Good afternoon. I want to ask a clarification first. You said in your prepared remarks that you see PCs growing through 2021, does that mean that you will see growth in each of the four quarters? Obviously you grew strong in 1Q? Or is that just implying that you will grow for the full year? And then in terms of my question just following up on the print business can you talk about how much channel inventory rebuild contributed to print revenue in the quarter. And Marie you made it clear that you expect Print margins at the upper end of the range, but why would they come down sequentially given that the pricing environment remains quite favorable?

Okay. Thank you, Katie. Let me start with a clarification. When I was talking about PC growth to continue, I was referring to market. As I was saying in answer to Shannon, we expect the market to continue to be very strong both this year and in the long term. And then let me offer a data point. If we look at the projection that we have for PC market in 2021, the one we have now and we compare it to the projection that we have for 2021 before the pandemic started the market is 45% bigger. So this talks about the growth that we have seen in PCs and really the -- why we are so optimistic about this business going forward. And now Marie will talk about the margins for print in Q1.

Actually I was going to move on and just cover your question around channel inventory Katy. So look with respect to that overall channel inventory is below what we believe are healthy appropriate levels for print. And that's really as a result of that strength that we're seeing in consumer. And right now we're also below the range and that's driven by that demand in home. We do expect however some replenishment of stock throughout our partner ecosystem into Q3 and that's going to help to bridge some of that demand from our customers. So overall, we want to make sure that our partner ecosystem is very well positioned to satisfy that demand.

Our next question will come from Toni Sacconaghi with Bernstein.

Yes. Thank you. I have two questions as well. First, if I look at your guidance for the full year, it implies an EPS decline at the midpoint down more than 20% in the second half versus the first half. Typically seasonality would point to EPS being up 10% in the second half. So I was wondering if you can comment on that. Are you being conservative? Because it sounds like you're going to be supply-constrained through potentially Q3, or are you believing that this very favorable price environment is going to come off. So are you expecting this deceleration because of conservatism? Are you expecting it because of weaker than normal sequential revenue growth? Or are you expecting it because you expect margins to go down to lower levels in the second half? And then I have a follow-up please.

Right. Hey, Toni, good afternoon. It's a pleasure to meet you. So, look, frankly Toni we've provided actually a very strong guide for the year. And we're investing for our future. In fact, we expect revenue growth in FY 2021 and EPS to be up 38% to 43% and free cash flow growth as well. So, while to your point this is front-end loaded in the first half, the second half EPS growth is actually 23% to 32% of the 111 that we actually delivered last year. And this actually includes earnings growth as well as the benefit of lower shares. So given the current environment as you could imagine we are modeling multiple scenarios for the second half. So look all-in-all, we believe that this is a prudent guide based on what we know today. And clearly, if we can do better we absolutely will.

Okay. I guess, I was trying to get a better sense of whether there was more confidence in the revenue trajectory or the margin trajectory. But just in terms of the follow-up, I want to better understand this restocking whether this is hardware or supplies are both on the print side is it principally consumer. So I presume your stock is going down on the corporate side since demand is much weaker and your channel inventory in dollars is going up on the consumer side and that's obviously very, very favorable. But you talked about this being a benefit last quarter this being a benefit this quarter that's potentially being a benefit next quarter. I'd like to understand exactly what that benefit is. And then maybe you could kind of zoom out a bit and just talk about how we should think about normalized supplies growth. I think over the last eight or nine years, it's gone down about 4% per year. The aspiration was to get to flat supplies growth. I think it took you a little longer to get there. You haven't really provided an update on how you think about supplies growth sort of in a more normalized environment how should we think about that? Thank you.

Great. Thank you Toni. Let me start and let me emphasize that we are very confident on both the revenue and profit projections for the year and this is what supports the strong guide that we have provided today. In terms of channel inventory the comments from that we made in the prepared remarks are not only for supply, but also for hardware, and we continue to be across the board in PCs, printers and supplies below what we think are the ideal inventory levels that we have for the channel. So that's -- this is where we are today. And all this is driven by the very strong demand that we continue to see especially, on our home products. And now let Marie explain what do we see on supplies? And what do we think is an impact on the replenishment this quarter?

And thanks Enrique. So Tony, looking at supplies performance there's sort of really three key dynamics to discuss. First of all, ongoing demand in consumer supplies with work-from-home and learn-from-home and there are ongoing challenges in commercial print as you know. And then secondly there's that favorable pricing environment, which was actually a tailwind. And then thirdly, the year-over-year compares also benefited from that replenishment of stock which was consistent with what we had indicated on the call in Q4. Now if you adjust for the impact of inventory movements, we estimate that supplies revenue was down roughly a 1% year-on-year. As you know, we have a multi-tiered channel. So this is our best estimate based on the data we have including our estimates for product across the channel and end-user stock. So this replenishment should have a short-term benefit to supplies revenue.

I'm commenting on the projections for the future, Tony. As you know, we are -- we have redesigned the strategy of the company to reduce the dependency on supplies to deliver our goals. This is why the subscription programs HP Plus are so critical. And we are very pleased with the progress that we're making on that front. We shared in the prepared remarks that we reached nine million subscribers on Inc. which means we added one million subscribers this quarter which is the factor and the most we have done in the history of the program. So clearly that is accelerating. And at the same -- as I also shared before, we are really pleased with the response that we have got on HP Plus and we are also making good progress on what we call big ink and big toner for in emerging countries which are a key part of our strategy as well.

Our next question will come from Amit Daryanani with Evercore.

Perfect. Thank you. It looks like I really have no printing questions for you guys anymore. But I do want to talk about free cash flow. And if I look at the fiscal 2021 guide I think you talked about $4 billion of free cash flow. It's really a modest uplift from the $3.9 billion we did in fiscal '20. So really just help me understand with revenue up the way it is and I think EPS is going to be up 35%, 40%, why is free cash flow up $100 million and change? Just what are the puts and takes that would be really helpful?

Yes. Good afternoon, Amit. So first of all, look at start-up and saying look, we're really pleased with the results of free cash flow and what we saw in the quarter. Now as we look forward to FY 2021 a bit, we expect free cash flow as I said in my prepared remarks to be at least $4 billion and in that is being driven by the earnings growth in both PS and print. And it is being sort of the headwind that we do have is it will be partially offset by changes in working capital, which we expect to -- from higher expected inventory and AR. And that's being driven obviously by the environment that we're in with PS.

Got it. And then I guess, Marie, really from your perspective as you step into the CFO role and your background as the Chief Transformation Officer. I'd love to get a sense on as you go forward how do you go between managing the need to reduce costs and optimize margins versus perhaps investing for growth as you go forward? And as you think about HP over the next two, three years, what are the big priorities for the company for investments?

No. Thanks, Amit. Look, frankly, I believe that great companies like HP focus on the end. We have to do both. We have to reduce costs and we have to make the right investments for the future. So I can tell you as the CFO, I'm going to be relentless about going after inefficiency and making sure we're driving value from our investments. I think my role is the Chief Transformation Officer really teed me up nicely for that outlook. Now with respect to investments, I'm going to turn it over to Enrique to add some color there.

And before I do that let me emphasize the comment from Marie about the end. We need to continue and we will continue reducing cost and we will continue to invest in areas where we see opportunities for the future. And my answer is not going to surprise anybody because this is the strategy we have been executing during the last years. It's about modernizing our core businesses both personal systems and print. We see opportunities to create value on both, it is about expanding into adjacencies. And yesterday, we shared the acquisition of HyperX that is an example of a very attractive adjacency for us, and we are also investing to create new businesses in industrial graphics in 3D printing, in microfluidics. And we see also the need to invest in improving our digital infrastructure that will help us to create new business model, but as Marie was saying, also to become more efficient leaner and really being able to respond to our customers in a better way. This is the strategy, we have been executing. The results show that it is growing and this is where we are going to be investing going forward.

Our next question comes from Matt Cabral with Credit Suisse.

Yeah. Thank you. Enrique, you just mentioned Hyperx. I wanted to dig a little bit more into that. I guess, first just a clarification. I saw in the release you guys said, it's EPS accretive, but wondering if you guys can comment on the revenue contribution you expect from Hyperx going forward? And then more broadly, just wondering for your perspective on PC gaming and just how we should think about sustainability there once people start leaving their homes in a more normalized manner? And just how you think about Hypera's peripheral spitting versus your OMEN brand within the lineup?

So first of all, let me start on gaming. Gaming is a very attractive opportunity for us both on the hardware side, where we have been growing significantly during the last quarter and where we expect to continue to see growth in the coming years. More and more people are using gaming at their main entertainment and this is driving growth today and will continue to drive growth in the future. When we look about gaming the peripheral opportunity is especially attractive. A gamer spends about 15, 16 more money on accessories than a normal PC user. And when we think about that opportunity the acquisition of Hyperx makes us really excited about the opportunity of really capturing that. Hyperx is the leader in gaming headsets they have a very strong portfolio on microphones mic keyboard. And really the growth – the value proposition of the acquisition is very clear. We are going to accelerate that growth by leveraging our geographical presence and our broader retail presence, as well as we will be taking their portfolio and expanding into new segments like commercial. Soil is all about growth and this is – and this growth is what makes it accretive for us in 2022.

Thanks for that. And as my follow-up, I wanted to broaden out the discussion on M&A and just talk about how you think about M&A strategically, and I heard in the prepared remarks that the plan is still outsized buybacks and less a better opportunity comes along. So maybe just help us understand the criteria you think about that trade-off between repurchases and other uses of capital going forward?

Our approach has not changed from what we have been communicating during the last quarter. We continue to believe that our stock is undervalued and we are going to continue to buy aggressively our shares. Marie mentioned that, we are going to be buying at least $1 billion of shares every quarter. And at the same time, we are always looking for opportunities to accelerate our strategies through M&A. We are looking at opportunities in the core businesses in adjacencies, and also to support our new businesses. And the criteria are very simple. Any M&A, we will do – will have to be aligned to the strategies we have explained. I will have to have attractive financial returns at a minimum a better ROI than buying our own stock. And third, we need to have a strong operational plan to execute on the value proposition of the acquisition. These are the criteria we have been applying. This is what we used to decide to acquire Hyperx and this is how we think about M&A.

Our next question comes from Krish Sankar with Cowen & Company.

Yeah. Hi. Thanks for taking my question. And congrats on the solid results. And Marie congrats on the full-time CFO title. I have two quick questions. First, Enrique or Marie, is there a way to quantify what would be the upside to revenues if you had no supply constraints? And then I had a quick follow-up.

Let me take the question. What you have in the guide is what we think we – based on the current supply that we see available, we can deliver, of course, if there was more supply, we will be able to drive more, but I don't think we will quantify what this number is. But let me tell you is, as I said in the prepared remarks, our backlog is at a record high. So it will be a significant number. But again, we are seeing shortages given how strong the demand is across the board.

Got it. Got it. Thanks, Enrique for that. And then as a quick follow-up. The gross margins in the January quarter were really strong. What were the drivers there? And how to think about gross margin for the rest of the year, especially as component costs get inflationary for you folks?

Yeah. Shankar thanks for the kind words. So look fundamentally, it's just all about demand frankly outpacing supply and really creating that favorable environment. So it's basically just the laws of supply and demand which helped us with better pricing in the quarter. So regardless of whether you're sort of talking year-on-year and quarter-on-quarter that improvement in gross margin was primarily driven by favorable pricing which showed up as fewer promotions and as cost improvements.

Our next question will come from Wamsi Mohan with Bank of America.

Yes. Thank you. I was wondering if you can go back to print margins for a second and look at this on a quarter-on-quarter basis. When we look at the sequential revenue improvement that was about $200 million in Print the Print profitability went up by $300 million. So maybe you can help us think through how much of that was pricing on hardware where there is fixed cost leverage that you might be recognizing versus higher mix on HP Inc. versus laser tower. If there's a way to dissect this somewhat differently in the $300 million and purely replenishment has a role there too, any way to maybe size those different components? And also if we can split between hardware and supplies I think that would give us a better sense of how the trajectory of this good progress? Thank you.

Sure, no thanks for your question. And so look the Print rate really benefited from improved gross margins, particularly in home hardware and that was driven by that favorable pricing that I mentioned earlier. And it was particularly in the consumer side. And some of those -- and then we had reductions from COVID-related supply chain costs that we had in Q4 and then that was partially offset by higher consumer mix and lower supplies mix. So that and all is what contributed to the rate. And overall we're seeing the strength and resiliency of our broad Print portfolio and leadership across customer segments and that's really positioned us very well against our competition.

Thank you.

Our next question will come from David Vogt with UBS.

Great. Thank you. Maybe just going back to the component shortage issue for a second. It's been persistent for some time now and there's been commentary across different industries that lead times are lengthening across the board. I know inventory is up this quarter 49 days 43 last quarter. But can you give us more qualitative discussion on how you're thinking about remediation going forward in your future procurement plans. In case there's a greater disruption and what that might mean for your top line going forward? Thanks.

Sure. So as I said before, the shortages that we are seeing are really driven by the very strong demand that we are getting across the full portfolio. We of course are taking any action we can to mitigate the impact and make sure that we can deliver even more than what we have in the plan. One of the big things that we have decided as Marie mentioned before is to increase the amount of inventory that we have on hand. This will help us not only to increase the delivery of the shipment of products, but also to be able to ship more products in case some components are made available during the quarter. We are also building direct connection with suppliers that until now will be managed from our ODMs usually suppliers of low-cost components because we have seen that it's important to really establish a direct connection with them and in some cases even buy products directly from them. And this I would say are the two big things that we have already done and that we expect will help us to manage the situation during the coming quarters.

And maybe just a quick follow-up on that. So when you think about sort of the inventory that you're taking in and that you're going to procure going forward, is there any sort of commentary or guidance you can give us in terms of what the margin impact might look like from that inventory today going forward as you burn through that inventory maybe later this year into next fiscal year?

I think given how strong our demand is if you are concerned about obsolescence of some of the inventory, I think the risk is extremely low because we really have very strong demand and we expect it to continue during the coming quarters. In terms of cost of components, we are expecting that in some cases cost will be increasing during the coming quarters but all of this is built into our guidance, and built into the comments that Marie made before in terms of operating margin during the coming quarters.

And just a follow-up on Enrique's comment. As a result then we would expect from an overall basket of commodity pricing perspective for those prices to be higher than what we've seen in Q1 going forward as well.

Our next question will come from Jim Suva with Citigroup.

Thank you very much and congratulations on the very strong results and outlook. When we dive – I have one question. When we dive into the results on PCs, yes you are growing, but it seems like some of your competitors, especially your North America competitors growing much stronger than you. You did highlight that you grew a lot in Chromebook. So I'm wondering is the strategy there to really focus on education and Chromebooks or profit share gains or market share maintaining, even if you lose some share? I just wanted to revisit your strategy in the PC side, when we look at the data versus the industry?

Sure. Let me be very clear Jim. So we had a very strong quarter in absolute terms on PCs, revenue growth, unit growth, profit growth but we didn't on relative terms. And being as competitive as we are, this is not something that we are satisfied about. As I explained before, we are looking at what can we do and what will we do to improve our relative performance. We have already taken some actions to do that by increasing inventory and changing how the connections that we have with certain component providers and this will be helping us to improve our performance going forward. We are really using this as a catalyst to optimize even further our operational capabilities and this is what great company do and what we will continue to do, because again, we like to win and this is what we will continue to do going forward.

So having said that, I think we are close to time. So let me use this as an opportunity to wrap up. First of all I want to repeat some of the comments I made during the prepared remarks. We are doing what we said we would do. And our strategy is working. We have had a very strong start of the year and we are confident in the projections that we have for 2021 and beyond. We see growth opportunities in our core markets in the adjacencies and also in the new businesses that we are creating. And we are really leveraging the opportunities that we see to accelerate our strategy, accelerate our growth, which gives us great confidence in the future of the company. So again, thank you for joining us today and looking forward to continue to talk to all of you in the future. Thank you.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.