Source: PaxForex Premium Analytics Portal, Fundamental Insight

PC manufacturing is not a highly profitable business. There is a lot of competition, and outside of specialized segments such as gaming PCs, there is not much differentiation. A regular laptop from HP will be similar to a regular laptop from Dell or Lenovo.

The pandemic has turned the PC industry upside down. Insatiable demand driven by work and learning from home, combined with constraints and shortages in the supply chain, created a favorable environment for HP and other PC manufacturers. Not only did sales soar, but so did profits. At the peak of quarterly earnings, HP's adjusted operating margin in its personal systems segment exceeded 8 percent.

This is not normal, and it was never meant to last. Historically, HP's operating margin in the PC segment has been closer to 4%. That figure may have been slightly higher during periods of high demand, but doubling the margin was a pandemic anomaly.

With global PC shipments down nearly 20% in the third calendar quarter, it should come as no surprise that HP's PC business isn't doing as well as it has in the past couple of years. In the fiscal third quarter, PC sales revenue fell 13% year over year, and adjusted operating margins returned to a more typical 4.5%.

Total units fell 21%, in line with the market. It wasn't just consumer PC sales that were weak. While consumer PC revenue fell 25%, commercial PC revenue was also down 6%.

Decent demand for commercial PCs has supported HP so far. In the second quarter, even though demand for consumer PCs fell, HP managed to increase its commercial PC revenue by 7%. Now it looks like businesses are starting to pull back as economic uncertainty intensifies.

The personal systems segment includes peripherals and accessories, such as the latest 4K streaming webcam. These types of products are probably more profitable than laptops and desktops, but they make up only about 7% of the segment's total revenue. That's probably not enough to really move things along.

The PC market is likely to be weak for some time. Management predicts that total PC shipments in the fiscal year 2023 will be down 10% from 2022. The company expects low demand and high inventory levels in the distribution channels to put pressure on pricing in the first half of next year and possibly the second half.

There is little HP can do about demand, so the company intends to fight costs aggressively. HP has unveiled a plan to cut costs substantially along with its third-quarter results. The goal is to cut at least $1.4 billion in annual spending by the end of fiscal 2025, with at least 40 percent of that amount to be achieved by the end of fiscal 2023.

Layoffs will be part of the process. Over the next few years, HP plans to lay off 4,000 to 6,000 employees, which is about 10% of the 51,000 employees at the end of fiscal 2021. In addition to layoffs, HP will focus on the strongest areas of the business and pursue cost savings through automation and other digital initiatives. HP expects the costs associated with these initiatives to be about $1 billion.

A plan like this is exactly what Wall Street wanted to hear, but it's also not the first time HP has done things like this. The company's "Fiscal 2020 plan" approved in late 2019, called for 7,000 to 9,000 headcount reductions. HP got lucky because 2020 and 2021 are the best demand situation in a long time.

Even if HP does manage to achieve these cost reductions, many of which involve such vague things as "digitizing end-to-end processes" and "creating connected experiences through digital platforms," the economics of the PC business won't change. And some of the items, such as portfolio optimization, could potentially lead to lower revenues.

Regardless of what HP says about cost-cutting, the era of making profits well above historical levels in the PC segment is probably over.

As long as the price is above 28.00, follow the recommendations below:

• Time frame: D1
• Recommendation: long position
• Entry point: 30.03
• Take Profit 1: 32.00
• Take Profit 2: 35.00

Alternative scenario:

If the level of 28.00 is broken-down, follow the recommendations below:

• Time frame: D1
• Recommendation: short position
• Entry point: 28.00
• Take Profit 1: 26.00
• Take Profit 2: 24.00