Big Spenders' Attraction to Big Tech

Big Spenders' Attraction to Big Tech

By DIMITRA DEFOTIS | MORE ARTICLES BY AUTHOR

HP and Microsoft get votes of confidence from some big hedge-fund and money managers. What do they like best? Probably the cheap valuations, cash hoards and payouts.
As the rest of us attempted to finish that summer novel and shuttle the kids off to school in September, institutional money managers and their hedge-fund peers were mulling prospects for big, boring technology stocks.
Several, apparently, had been buying the sector: Tech stocks were notably present in disclosures of third-quarter holdings that began piling into the SEC last week. And while Securities and Exchange Commission filings represent an imperfect snapshot―they're more than 40 days old―they're a window into a savvy world.
Warren Buffett went on CNBC to talk up his new stake inInternational Business Machines (ticker: IBM) before his disclosures were even available for public consumption. Conversely, it took some bleary-eyed comparisons of filings in PDF format to figure out what guys like Seth Klarman, the Boston-based hedge-fund manager and founder of the Baupost Group, were buying and selling in the latest quarter.
Klarman's most noteworthy tech-sector purchase wasHewlett-Packard (HPQ).
HP reports earnings after the closing bell Monday, and new CEO Meg Whitman, who replaced Leo Apotheker after his September ouster, will be manning the microphone.
Baupost Group bought more than 20 million shares of HP between July 1 and Sept. 30―a stake valued at roughly $466 million at the end of the third quarter, now valued at more than $580 million. That's a big commitment, representing 15% of Klarman's portfolio. Klarman, a famed value investor, also holds 12 million shares of Microsoft(MSFT), worth $306 million.
But he also owns a healthy dose of biotech and pharmaceutical stocks. And Klarman has been known to hold plenty of cash. So why buy HP? (Sellers in the same period included hedge-fund manager John Paulson, who, steeped in losses this year, dumped 8.3 million shares of his HP position, which now stands at 15 million shares.)
Klarman probably couldn't resist HP's valuation. The stock today, at 28, is trading at six times earnings of $4.56 that analysts expect for the fiscal year that ends in October 2012. Shares have underperformed the Standard & Poor's 500 Index for most of the year, and were down 47% for the first nine months of the year, compared with a 10% drop for the S&P.
Even better, HP's paltry dividend has recently increased 50%, to 12 cents per quarter. The stock pays a 1.7% yield, and that should go up if HP wants to keep investors happy. The company had about $13 billion in cash sitting on the balance sheet at the end of July, the latest quarterly data available.
The new version of Windows and a big pile of cash are two things going for Microsoft, Klarman's other big tech investment. (We said in a recent Barrons.com feature that Microsoft is undervalued at under 10 times estimated '12 earnings, and could have 20% upside.) Microsoft had almost $13 billion in cash, and another $44.5 billion in short-term investments, on its balance sheet at the end of September. Its dividend is up 25% over the past year, and the indicated yield is now 3.2%. Microsoft may offer more upside in the near term than HP, as news about the new Windows 8 trickles out. Revenue should trickle in later in 2012, marking a fresh cycle sales on the back of demand from new mobile gadgets.
HP shares already reflect a lot of bad news. It can probably repair the damage that resulted from the "Whither the PC business?" debate, when no one bid for that $40 billion unit. But can it gain enough market share to offset a drop in industrywide PC sales caused by steadily increasing competition from tablets and smartphones? Monday's earnings call will show if there's deterioration in PCs. The good news is that new CEO Whitman hasn't made any headlines, and the corner-office executive drama―Mark Hurd's scandalous ouster and Apotheker's departure―is in the rearview mirror.
Klarman offset these big names in tech with a smaller name: He bought more shares of the $557 million-market-cap Sycamore Networks (SCMR), maker of optical switches and other networking devices. He sold shares of $163 million-market-cap Audiovox (VOXX), a maker and supplier of consumer electronics, including an audiophile favorite, Jensen.
Investors are nervous about how HP will spend money after the acquisition, valued at $10.3 billion, of British software company Autonomy. Whitman has said Autonomy represented "the end of big acquisitions." Hopefully, Whitman will offer some specifics Monday on how much free cash flow will go to dividends or share purchases.
"Given that HP should generate $8 billion to $10 billion in free cash flow in fiscal 2012, we believe that repurchasing an incremental $4 billion in stock, which would reduce share count by 7% at current levels, would…send a strong signal about capital-allocation priorities," writes Toni Sacconaghi, an analyst at Bernstein Research. (For more, see "What the Big Shots Are Buying and Selling.")
IT WAS A WEEK FOR OFFERINGS of Web stuff―stuff that the rest of us have been compiling at low cost, if not for free―so someone else can assign a price tag. Ah, capitalism!
Angie's List, a consumer-driven compendium of recommendations on services and health-care professionals, started trading on Nasdaq as ANGI, a ticker that would make Mick Jagger proud. Yelp, a site similarly conceived, helps people find local businesses, and hopes to raise $100 million in a public offering. The backbone of each site is the participation of unpaid, average people. But as the sites get bigger, the hope is they can police enough to keep reviews authentic―and monetize the offerings.
And then there's kodakgallery.com, the photo-sharing site controlled by beleaguered Eastman Kodak (EK), which is now focused on printers and divorced from film. Desperate for cash, the parent is shopping the asset―essentially a system for monetizing a scadzillion photos that users access freely―to buyers. Kodak reportedly is approaching competitors, private-equity investors and retailers about buying the site for "hundreds of millions," according to an anonymous source quoted by The Wall Street Journal.
It's a tough sell. Kodak hasn't succeeded in charging an annual fee, even as its library of digital photos gets bigger and bigger. Perhaps another owner can fatten the margins on calendars, books, cards and other items users make with their own photos. But the site reportedly was never profitable. As a user for years, I can say the software is cumbersome for uploading and making books, and Kodakgallery's iPhone app initially left much to be desired.
If fees go higher or the rules change, gallery customers surely will flee. But Kodak could run out of money in less than a year if it can't raise funds. It may have to sell patents if it can't sell other assets or get a loan. How black and white for the former maker of Kodachrome.

Bad Reception The cash-strapped wireless service Clearwire may skip a $237 million debt payment. The Nasdaq Composite Index ended the week at 2,573, off 4%.