Wednesday, May 12, 2004

HP's White Whale 

I read this article in the Wall Street Journal today (sorry, no external link) about HP's PC business. The basic story was that since HP has bought Compaq, and they have merged their PC divisions, HP has been trying to be very strong competition for Dell. Just as they completed their merger, Dell's marketshare overtook their combined marketshare for the first time. They've been neck and neck since then, edging each other out in different quarters.

Apparently HP's take on this is that the whole game is "strategic," and so they have lowered their prices to the point where they just barely break even, in an effort to put price pressure on Dell and thus expand their marketshare. Then, with increased marketshare, they could make money off of selling related devices, like printers and scanners. I don't have an MBA or anything, but I'm really not sold on this.

First off, Dell easily has the lowest costs of any PC manufacturer. This is why they make better margins than any other PC maker. Dell keeps costs low by not making it until you order it. This gives them incredible flexibility in pricing and inventory management. That's not even saying anything about their superior operations and logistics. In contrast, HP makes less than a fifth of their computers made-to-order. Instead, they rely on a vast (slow!) retailer network, which sells pre-built boxes in standard configurations.

Now, if you want to lead a race to the bottom, make sure that you can go lower than the other guy. First point. But also, what happens when they get there? Do they actually think they're gonna kill Dell by doing this, and then be able to strengthen prices? Unlikely.

More likely, this was largely a symptom of their inability to change, and their desire to show some success out of their big merger. "Well, we can't squeeze profits out this, but if we can start beating Dell in marketshare, then at least that will look good," they might have thought. There's even some valid logic to it: They're a very diversified company, and an unprofitable PC business isn't going to kill them, whereas Dell doesn't have any other money makers. If they can't make it profitable, might as well hurt Dell and try to give a boost to other divisions.

Still, that sort of strategy isn't viable over the long term. By having essentially zero margins, they're very sensitive to changes in costs and demand. Apparently they've already been bitten severely by this. What do you do if you're operating at break-even for years, and market share starts to decline for all your troubles? You'd have to have some pretty amazing margins on the related devices you expect your PC buyers to also buy, in order to compensate for this. And I imagine only a fraction of their customers buy related devices.

It's a terrible shame, because I think HP is otherwise well-positioned to do something else. Markets always have room for multiple successful firms, each one serving different segments of that market. By blindly trying to out-Dell Dell, they have failed to fully exploit the strength they get from their diversity. In my opinion, a better long-term strategy would have been to try to be a PC version of Apple.

Apple's strategy is basically "digital lifestyle," where the Mac is a hub that connects and coordinates other components that you use in your daily life. Apple does this by making the Mac, and making it very easy to have it talk with digital cameras, video cameras, digital music players, DVD burners, and so on. Yet Apple seems unable to ever get anyone to switch from PCs to their platform. People just want PCs, and Apple is unwilling to act as if this is reality. And Apple doesn't even make very many of those peripherals, though they seem to be moving in that direction! (iPod is the obvious exception)

This is where an opportunity exists for HP. HP actually makes all those other devices, yet the value of an all-HP set of those devices doesn't seem any better than an HP computer with peripherals made by third parties. And HP's software offerings don't seem to offer any notable improvement compared to any other PC using HP peripherals. For years people have periodically gotten excited by the possibility of Apple producing versions of their hardware and operating system for PCs. HP could actually create a similar package of default software, services, and hardware designed to integrate better with other HP products.

For example, an easy, quick start would be to license Picasa, photo software made by some friends of mine.

Update: Interesting responses.

First, the idea does not require being as cool as Apple. That's probably impossible, and as Shawn pointed out, HP doesn't seem to swing that way. My point was that given the choice between a price war and adding value in a way that no other PC manufacturer is positioned to do, the latter would be a better option, even if you couldn't get the Apple buzz. It would require changes more pervasive than just changing a price from "level where we make money" to "level where we break even."
I think Apple should switch to Intel processors for their machines. They can modify the ISA such that it can work as a PC, but to run the MacOS it requires a special instruction (or what have you). So, people can buy the slick machines and duel boot it as a PC or a Linux box or all three. Heck, I'd probably buy an Apple if that was the case.
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