Good day, everyone, and welcome to the Fourth Quarter 2022 HP Earnings Conference Call. My name is Emma, and I will be your conference moderator for today's call. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes. I would now like to turn the call over to Orit Keinan-Nahon, Head of Investor Relations. Please go ahead.

Good afternoon, everyone, and welcome to HP's fourth quarter 2022 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 a webcast, and a replay will be available on our website shortly after the call for approximately one year. We posted the earnings release and 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 some of these risks, uncertainties and assumptions, please refer to HP's SEC reports, including our most recent Form 10-K and Form 10-Q. 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 SEC filings for the years ending October 31, 2022 and 2023 and the quarter ending January 31, 2023. 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. With that, I'd now like to turn the call over to Enrique.

Thank you, Orit, and thank you, everyone, for joining the call today. I'm going to focus my remarks on three key topics: First, I will recap our Q4 and full year results. Then I will discuss actions we are taking to position our business for the future, including a new three-year plan focused on structural cost reductions that will drive the next phase of our digital transformation and the investment in our growth businesses. And I will close by talking about our outlook for 2023. But let me start by setting some important context. It has now been three years since I became CEO. From the day I took over, my top priority has been to deliver long-term, sustainable, profitable growth while transforming our business for the future, and we have made important progress. We started by launching an aggressive plan to unlock value. We implemented a new global operating model that brought us closer to customers and helped us significantly reduce structural costs. We initiated actions to rebalance profitability in our Print business. And we began to diversify our portfolio to capture more value per customer. We expanded into adjacent growth categories such as peripherals. We extended our services and solutions offering, and we shifted more of our business to subscription and contractual models. These changes helped us to improve our operational performance. They also position us well for the disruption caused by the pandemic, which we were able to use as a catalyst to accelerate our transformation. And our track record over these past few years provides a window into what you can expect from us moving forward. We have proven to be resilient in the face of changing market conditions. We delivered strong free cash flow, controlled our costs and scaled our growth businesses. At the same…

Thank you, and good afternoon, everyone. Our Q4 results were impacted by many of the same macroeconomic challenges we highlighted last quarter, including a significant slowdown in consumer demand, FX and inflation. That said, we are adapted quickly to the current environment and have demonstrated disciplined cost management to deliver solid results to finish out the year. In addition, we returned significant capital to our shareholders while successfully closing our acquisition of Poly. We continue to believe in the long-term opportunities across our business and are confident we have the right strategy and portfolio of assets to drive long-term value creation. Today, I will cover our Q4 results and a recap of FY '22 followed by details about the cost transformation component of Future Ready, building upon the foundation we laid in our previous program and then finish with our outlook for Q1 and FY '23. Turning to our Q4 results. Net revenue was $14.8 billion in the quarter, down 11% nominally and 8% in constant currency. Gross margin was 18.4% in the quarter, down 1.2 points year-on-year driven by FX and increased pricing competition, particularly in PS. Non-GAAP operating expenses were $1.6 billion or 10.7% of revenue, down 18% year-on-year. In Q4, we installed further rigor at our cost management with OpEx down sequentially, excluding Poly. Year-on-year, we reduced our OpEx spend by nearly $350 million by prioritizing our spend and reducing variable compensation, while also capturing additional structural cost savings under our transformation plan. At the same time, we made and expect to continue to make prudent and targeted investments where we anticipate significant opportunity to drive growth, including our key growth areas, which Enrique outlined earlier. Non-GAAP operating profit was $1.1 billion, down 15%. Non-GAAP net OI&E expense was $128 million for the quarter, up sequentially, largely…

[Operator Instructions] Our first question comes from the line of Amit Daryanani with Evercore.

I guess, Enrique, I'm hoping you just start off talking a little bit more about the transformation plan. And then what I'd love to understand is what do you think HP looks like after the transformation plan is done, maybe in terms of the growth rates on the operating margin profile versus what you've seen historically? I want to just to understand what would be different about HP post the current transformation plan? And then if you can also just touch on, how do we think about net savings, the gross numbers you're talking about through this transformation? That would be helpful.

Sure. Thank you, Amit. So first of all, we -- because of the transformation, we think that we will continue to support the guide that we provided last year about sustained revenue and profit growth year-over-year. This has been the goal that we had before and continues to be the goal that we have now. From a business perspective, this will allow us to continue to accelerate our subscription and services business. We will be a more efficient company because we will be leveraging our digital infrastructure to support and to -- we will have transformed many of the key processes that we have and the mix of our business between the core businesses and what we call the growth businesses will also be different. This will be the key driver that we will expect to achieve through the transformation.

Amit, maybe I will just add a comment, and good afternoon, regarding the savings. So we do expect at least $1.4 billion of gross run rate structural savings by the end of '25 and approximately $560 million of that by the exit of '23. Just to add, it will be a mix of both COGS and OpEx. And we look at this over time, as Enrique said, and we expect that these savings and investments that we're making are going to provide that significant flow-through over time.

Got it. And if I can just follow up on the Print margins. They've held up really well despite the decline we see on the supply side of the business. As you think about the performance especially in the last three, four quarters on Print margins, what are the two, three things that you think made margins to sit at 20% right now, near 20%? And then what do you think is the durability of this margin level at least in the first half of next year?

Yes. No, thanks very much, Amit. So look, as you said, we're really pleased with the Print margins that were at 19.9% in Q4, which is actually at the high end of our expected range. And that increase, if we look at it from a year-on-year perspective, is a combination of things. Firstly, we've demonstrated disciplined OpEx management that's contributed along with overall pricing durability, as you mentioned. And I think both of these factors combined have really helped to sort of play into our performance. As we look into next year, we do expect once again to be at the high end of the range. And it's really contributed by both the resiliency of the portfolio, our strategy, a combination of that pricing management. I think that we've really mastered along, obviously, with the benefits of the Future Ready Transformation program that we just announced today as well.

Yes. If you remember, we announced a plan to rebalance profitability between hardware and supplies [three] (ph) years ago. We have been executing on that. This quarter, we shared that more than 50% of the printers were profit upfront. So all this has also helped. But as Marie said, we expect to build a business within range during 2023.

Your next question comes from the line of Shannon Cross with Credit Suisse.

My first question is looking at your growth areas. I think we understand where there's pressure on your model. But maybe if you could talk a bit more about the $11 billion in revenue that you've generated, and I'm not sure if that's like pro forma for Poly or it doesn't include Poly. I think it is excluding. I'm sure it's very small print. But if we can think about each one and their potential growth contributions, and maybe how to think about the margin potential for each one of those? And then I have a follow-up question.

Sure. So yes, you are right, Shannon. The $11 billion does not include Poly so this will be on top of $11 billion that we explained. And the goal that we had at the beginning of the year was for them to be about $10 billion. So this is almost $1 billion more than what the plan was. I think what we can say at this point is all of them grew double digit during 2022, and we expect collectively to grow again double digit in 2023. And as we share, if we look at the year, the gross margin was above the gross margin of the company. In some of them, we are still in investment mode, and we know we need to continue to invest to continue to accelerate the growth. And this is one of the reasons why we have been working on the transformation for a few months now because we know that we need to both compensate for some of the challenges that we see on the market side given the slowdown in some of the markets, but we also need to continue to invest on the growth initiatives because they will carry the growth of the company and the value of the company in the future.

Okay. And then Marie, if you can talk a bit about on the cash flow side of things. I mean, you're guiding $3 billion, $3.5 billion. I assume that includes restructuring. Maybe it doesn't. But just in general, how do we think about sort of normalized cash flow for this model after you go through or as you go through the restructuring plan and areas where maybe you can draw down in terms of working capital? And just again, I think people are trying to understand maybe when you would get back to where you can buy back stock, just your comfort level and what you're seeing in terms of cash flow?

Absolutely. And good afternoon, Shannon. So as you said, the cash flow guide is $3 billion to $3.5 billion. And just a clarification, that actually does include the $400 million of restructuring cash flow. So just take that into account in your model. Now in terms of how to think about free cash flow, as you know, it tracks with net earnings. But in any quarter, as you've seen just in our results, in the last couple of quarters, it's driven very much by the mix of business that we see in the quarter and changes in working capital. And those items include everything from the restructuring, the bonus, et cetera, and also just adjustments that we make to our inventory level. So you're going to expect that there's going to be a level of seasonality around it as well. And then as we're thinking -- specifically about the first quarter that's coming up, we would say it's going to be -- we're going to guide here to a lower number because we expect typically from a seasonality perspective, that's when we pay out the bonus that we accrue in the prior year. And also, we expect specifically in Q1 just due to the fact we've got this combination of both the unfavorable business mix from the top line pressure of Personal Systems, you combine that with the bonus payout and restructuring and with the increase in AR from contract manufacturers, which is partially offset by continued reductions we're taking at inventory level, we expect that our cash flow in Q1 is probably likely to be negative towards breakeven. So I know I've said a lot there is definitely a lot of factors going into driving the linearity in our cash flow. But once again, still very confident in the guide that we've given for the year of $3 billion to $3.5 billion. And then I'll just turn it to Enrique if he wants to comment at all with respect to our repo strategy.

Sure. We can talk about that. We also shared in the prepaid remarks that we are not changing our capital allocation plan. But as we have said before, we are going to be returning to shareholders 100% of free cash flow unless better opportunities arise and always within the our -- where we will stay within our leverage rate. In Q4, we completed the acquisition of Poly. We did it one quarter before we were planning, and therefore, during the beginning of the year, we are going to slow down or moderate our share buyback to -- in alignment with our plan. But our plan is to go back to the original plan in the second half as we will have more stronger situation for a free cash flow perspective. And that's our plan.

Yes. I'll just add, it is important that we're going to ensure that we at least offset dilution from employee benefit plans as well.

Your next question comes from the line of Toni Sacconaghi with Bernstein.

Yes. I'm wondering if you could specify how significant the backlog drawdown was in the quarter, just so we can get a sense of what kind of baseline normalized order of revenue growth was. And then you provided some context on your expectation for Q1 revenues for PCs to be down mid-single digits sequentially. I'm wondering if you can comment on your revenue expectations for Q1 overall and for fiscal '23. For the next four quarters, Dell is calling for revenues to be down in the teens. I'm wondering if you see a more optimistic outlook than that? And I have a follow-up, please.

Sure. I'll take the question on market and then Marie will talk about Q1. So from an order and projection perspective, Toni, the way we are modeling the PC market for next year is to -- we are expecting that it will be declining by 10%. And from a backlog perspective, we basically cleaned the majority of our backlog during Q4. And we are back to where we were before the pandemic, which is one of the reasons why we expect the market to be in the minus 10% range in -- during 2023. Marie, do you want to talk about Q1?

So just on the revenue per PS, we do expect it to be down mid-single digits sequentially. And obviously, that's driven by all the conditions we've talked about earlier today. And as you know, we normally don't guide revenue, but we do expect that normal seasonality won't apply in '23. So we'll see some improvements in the overall revenue trajectory in the back half. But overall, we do expect to see PS revenue down here in Q1.

And the situation is different on the print side, especially on the Commercial side, we continue to have some shortages as we were expecting. So backlog for Commercial print remains elevated and we expect to clearly during the first half of 2023.

Okay. I still don't feel like we have a pretty good sense of what your range of outcomes is for revenue growth for 2023. But -- maybe you can address that. But just following up with the second question, you said Supplies would be back to your traditional model of down kind of low to mid-single digits. But you pointed to minus 10% growth in the first half. So that means you're expecting Supplies to grow in the second half. That's pretty well the simple math. And why did we have this big perturbation from model the last couple of quarters and maybe the next couple of quarters. Is this just channel inventory correction? Or why do we have a sudden reset off of model that is minus 3% to minus 5% and minus 10% and then it kind of bounces back.

Sure. So as I explained in the last call, the changes in the performance in the supply business is really driven by a slowdown of Consumer demand. We started to see this at the end of Q3. And as we were expecting, we have continued to see that in Q4, and we project that this will continue. Of course, as demand gets adjusted, there is an inventory adjustment, but this is not the reason why we are seeing -- the impact in supply is really driven by adjustments in user demand. . For the full year, as we said last quarter and we continue to say, we expect the business to go back to our original guide. And this means that the second half will have stronger performance than the first half. I think as we look at quarter growth as one of the key metrics, I think it's important to realizing that adjustments done in previous quarter have a lot of impact on growth. So we don't think it's the best way to measure the health of the business because anything that happened a quarter ago will have an impact on what is the next quarter. But again, the big impact is driven by a slowdown on Consumer demand. And I think it's also important to highlight that our channel inventory is in a very good position today. I mentioned last quarter that it was slightly above where we wanted it to be. We are now totally within the position where we like to be.

Your next question comes from the line of Aaron Rakers with Wells Fargo.

Yes. I've got two as well. Just going back to kind of Toni's questions a little bit. I guess on the context of the revenue side, just correct me if I'm wrong, the 10% number with regard to PCs being down, that's a unit number. So as we see ASP pressure come into play, would the assumption be that revenue declines more? And then also, on the revenue context, I think there was a comment thrown out there about 3% with regard to print. I'm curious, was that 3% sequential down in this quarter? Or was that kind of the commentary for the full year? I was just confused by that comment around 3% decline in Print. And I got a follow-up.

Sure. Let me start with the print side, and then Marie will talk about PC. On the print side, the minus 3% is the expected decline in the overall market for print between fiscal year '23 and fiscal year '22, and there are different dynamics behind that number. We are expecting the Consumer number to -- the Consumer market to go down year-on-year, the office market to go slightly up and the industrial market to continue to grow like it has been growing during 2022. The net effect of all these three is a minus 3% growth year-on-year. Marie?

Yes. No. With respect to revenue, I think as I said earlier with Toni's question, we do expect to see down mid-single digits sequentially. And as we mentioned earlier, I think Enrique commented in the prepared remarks, down 10% on units, and this is obviously with an environment where you've got higher channel imagery, there is going to be some ASP pressure. So we do anticipate though, as you get into the second half, that should clear out the inventory that we'll see some of the revenue adjust. But I think the way to think about it is that certainly the first half of PCs is going to be challenged. But obviously, we will be doing our best to offset all of this with an improvement in our mix. And I think we've demonstrated that over the last couple of quarters.

Yes, that's very helpful. And then I guess the follow-up was on the channel inventory discussion. I guess, do you see that channel inventory is the assumption right now that channel inventory normalizes as we get towards the mid part of calendar '23. Any context of how you would currently characterize your own channel inventory in that?

Sure. If we're talking just Personal Systems, absolutely. We expect that the inventory will remain elevated through the first half, but then normalize in the second half. And then as I think Enrique said earlier, Print is in really good shape, both supplies and hardware.

Your next question comes from the line of Erik Woodring with Morgan Stanley.

I have two as well. Maybe Enrique I start with you. This is your third consecutive kind of three-year cost cutting or transformational plan, I should say, HP's third consecutive at more than kind of $1 billion of gross cost savings, each plan. So I guess if you take a step back and you think about the last maybe almost a decade in that context. Why have the prior plans, I guess, not been enough? Or what are you doing with this specific plan that you haven't necessarily already done, given even last summer, you talked about portfolio SKU rationalization and digital transformation. So just maybe if you could help us understand that. And then

Sure. Thank you, Erik. I would say there are two things. First is the world is in a very different position now than when it was three years ago, but also the company is in a very different position. In fact, a significant part of the savings that we are going to be able to achieve now are really driven by the investments that we have made during the last 3 years that really are enabling a significant part of it. For example, when we talk about continuing to work on the digital transformation, we can do it now because of all the investments that we have made during the last three years. Additionally to that, when we look at the return on this investment, it really brings -- has very good results. We are going to be investing $1 billion, and we will get, as Mario was saying, $1.4 billion of run rate savings at the end of '25. So really very solid return. And on top of that, this will also help us to continue to invest in our growth businesses. We think that it is important that as we go through a challenging marketing conditions during the next quarter, we continue to invest in the future businesses of the company, and this transformation is going to enable us to do that going forward.

Okay. And then maybe Marie, this one would be for you. Net debt is up a little $4 billion to $5 billion year-over-year. Obviously, Poly had an impact on that. Your gross leverage is creeping towards the higher end of your 1.5x to 2x range -- target range. And so would you be willing to go over 2x temporarily? I mean the math says, you could technically get over 2x over the next 12 months. So are you willing to let leverage get over 2x? And/or why not try to work down some of that just given the more uncertain macro backdrop, rising interest rates, et cetera?

Yes. No worries. No, we're very much committed to the strategy. I think we've articulated of staying inside our range. So absolutely, we'll continue to execute against our strategy.

We think that the world is, as we have said, very volatile and having a strong balance sheet is really important. So this is why we will stay below 2, keeping investment-grade rating is critical for many of our big deals with large corporations. So this is one of the big reasons why we want to stay there. And if everything we will deliver, we are not planning to go beyond the range.

Your next question comes from the line of Wamsi Mohan with Bank of America.

It's Ruplu filling in for Wamsi today. I have two questions. Enrique, one on PCs and one on print. In the prepared remarks, with respect to Personal Systems, you said that you're not happy with the share performance. It looks like HP lost some share, both sequentially and year-on-year. But I'm sure you've already done in this quarter what other companies are doing, which is reducing price. And with the inventory -- channel inventory remaining high for half of fiscal '23, can you talk about your strategy in Personal Systems. How do you think you can gain share? And what are some of the things that -- you talked about execution. So what are some of the things you can do better to gain share in this year?

Sure. As we have explained in the past, our strategy and our goal is profitable growth is not to gain share for the sake of gaining share. And therefore, we are very judicious and very careful as we look at deals in different geographies, different segments to make sure that the deals make financial sense for us. This quarter, we saw very aggressive pricing in many countries in the world, especially in the Consumer segment, especially EMEA. And in many cases, we decided not to participate. But we also know that to maintain a strong leadership position in this market, we need to regain share. And this is -- and we think that the cost reduction activities that we have been working on for some time are going to be part of the Future Ready plan, are going to help us to be more competitive and help us to win share during 2023, which is our goal. And that's really the key -- this will be the key driver of the share growth that we expect to have.

Okay. Can I ask a follow-up on the Print segment? As people are going back to work, how do you see the relative growth rate of your home subscription business in spending versus the commercial Managed Print Services business are either one -- is one more profitable than the other? And then just as you look at print margins throughout the year, you guided for the full year to remain at the high end of the range. But should we think that the first half going to second half, your Print margins normalize somewhat towards within that range. So can you just give us your thoughts on the relative margins of those two subscription businesses? And how do you see the growth rates for them as well as the margin progression this year?

Sure. From a margin perspective, similar to what happens on the transactional side, the home, Instant Ink program is more profitable than the Managed Print Service program. That’s driven by the fact that we own almost all the technology stack. From a growth perspective, though, they are not related. We have a lot of opportunity to grow the consumer subscription business and to grow as well the Managed Print Service business, especially as we start seeing some slow but some recovery on the office side.

And just on the margins, as I said in our prepared remarks, we do expect to be at the high end of the range. But in terms of just how to think about it half-on-half, just in the first half, we do expect a little more softness in Consumer due to some of the favorable pricing. So we'll see that probably in the first half, some normalization.

Your final question today comes from the line of Krish Sankar with Cowen & Company.

I have two of them. First one, either for Marie or Enrique, on your cost reduction plan. With the portfolio optimization, how should we think about the TAM opportunity for HP in FY '25, given that I understand you want to do profitable growth. But do you think with the portfolio optimization and the headcount reduction, you're prioritizing one over the other? And then I have a follow-up.

Yes. So our portfolio optimization have many different elements. Let me highlight a couple of them. First, we are going to maintain, and in some cases, increase our investment in the growth businesses. As I said before, we expect to get double-digit growth in 2023. And going forward, they will continue to become a more relevant part of the company. On the other side, we also know we have opportunities to optimize some of the businesses in the core side. For example, during 2021 and '22 because of the component shortages, we have to duplicate many SKUs. We had to duplicate investments in boards, in many different parts to compensate for component shortages. This is clearly now an opportunity to simplify, to rationalize and to reduce investment and cost in the cost side. And there are many other things, but these are two good examples of the things you will see us doing.

Got it. Got it. Super helpful, Enrique. And then a quick follow-up, actually, a two-part follow-up. On the 10% PC units down, is that for FY '23 or is it for calendar '23? And can you just help us understand what your calendar '22 baseline is? And then the second part of the question is, I think, Marie, you mentioned how second half of FY '23 should get better as inventory digest for PCs. I'm just kind of curious, is that really a function of inventory digestion and you expect demand to improve? Or is that -- because it seems like most companies expect a second half 2023 recovery, but with an uncertain demand environment, what is the confident level on that improvement?

Sure. So let me start with a minus 10%. The minus 10% is what we expect the unit decline to be during our fiscal year that goes from November '22 to November '23. We are using that number because we think it's more relevant to understand the guide that we provided today. Marie?

Yes. And just on the second half, just bear in mind that not only the channel inventory will be in better shape, but we also will see the impact of the Future Ready Transformation program. So we'll expect to see those gross run rate structural savings that I mentioned about $560 million kick in, in the back half as well. So that's another driver along with -- we should see supply chain improved, particularly in print and high-end PCs. And I'd just add that at the high end of the guide, the upside is really coming from a better macro, but we're not counting on it. So that's what could drive us to the high end of the range.

Thank you, everybody, for joining the call today. But you can see that we are taking the actions under our control to manage the situation and to improve the situation. Clearly, we know that we need to both continue to reduce our cost structure, but also to invest for the future of the company because I don't think anybody can predict when the rebound of the economy will happen. But what we want to make sure is that we have a stronger HP when this happened, so we can take advantage of that. So really thank you, everybody, for joining. And Happy Thanksgiving for those of you in the U.S. Thank you.

This concludes today's conference call. Thank you for attending. You may now disconnect.