HP Inc.

Good day everyone and welcome to the third quarter 2019 HP Incorporated earnings conference call. My name is Sean and I will be your conference moderator for today's call. At this time, all participants will be in a listen-only mode. We will be facilitating a question and answer session during the end of the conference. Should you need assistance during the call, please signal a conference specialist by pressing the star key followed by zero. 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. I'm Beth Howe, head of investor relations for HP Inc. and I'd like to welcome you to the fiscal 2019 third quarter earnings conference call with Dion Weisler, HP's president and chief executive officer, Steve Filer, HP's chief financial officer, and Enrique Lórez, HP's president of imaging and printing. Before handing the call over to Dion, let me remind you that this call is being webcast. A replay of the webcast will be made available on our website shortly after the call for approximately one year. We posted the earnings release and the accompanying slide presentation on our investor relations webpage at .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 related to forward-looking statements that involve risks, uncertainties, and assumptions. For 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 the estimates based on information available now and could differ materially from the amounts ultimately reported on HP's Form 10-Q for the fiscal quarter ended July 31, 2019, and HP's other SEC filings. During this webcast, unless otherwise specifically noted, all comparisons are -over-year comparisons with the corresponding year-ago period. For financial information that has been expressed on a non-GAP basis, we've included reconciliations to the comparable GAP 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 Dion.

Thanks, Beth. Good afternoon and thank you for joining us. We have a lot to talk about today, and I want to start with the topic that I'm sure is most on your minds. As you've seen, I will be stepping down as President and CEO of HP. This is a decision I made following a great deal of reflection, and it's among the hardest choices I've ever had to make. There is nothing more important to me than my family, and I'm making a personal decision to return to Australia to tend to a family health matter. Serving as CEO of this great company for the past four years and having the opportunity to work alongside a truly incredible team has been the honor of my career. I also feel privileged that we have such an incredibly strong bench of capable leaders and robust succession planning at every level of the organization. The HP Board has had a rigorous succession planning process since day one of our company, and this process led the Board to exactly the right leader to usher in the next era, the HP. After a thorough review and careful consideration of a full bench of external and internal candidates, I rest easy knowing that the company I love is in the best of hands with Enrique as the next CEO. As you spend time with Enrique and get to know him as I have, you will see why he is uniquely positioned and exactly the right leader HP needs to build on the company's progress and capitalize on future opportunities. Enrique began his career 30 years ago as an HP intern and spent decades becoming one of the company's most accomplished multi-faceted leaders. From his engineering roots and expertise across the print, personal systems, and service organizations to leadership roles at a country, region, and worldwide level, Enrique is relentlessly dedicated to serving customers and partners and passionate about next generation innovation. Since I arrived at HP seven years ago, I've seen what Enrique is made of. He combines the strategic acuity and operational rigor needed to be a great executive with a passion for people and deep sense of purpose needed to be a trusted leader. I personally benefited immensely from his leadership during the separation of Hewlett-Packard Company in 2015 when we spent many long days together setting HP on its current course. Enrique brought incredible vision to our separation management office and was a key architect of one of the largest and most complex corporate separations in business history. He then operationalized a strategy that transformed HP's cost structure while simplifying the organization and creating the capacity to invest in innovation and drive profitable growth. More recently, Enrique has led a comprehensive global review of HP's strategy and business operations, working directly with our board to define our future operating model and prioritize initiatives that maximize shareholder value. Just like its separation, he's bringing incredible vision and energy to this work and I know it will open exciting new doors for our company. You'll no doubt be spending a lot of time with Enrique, but I invited him to our call today to say a few brief words before we dig into our Q3 results. Enrique.

Dion, let me start by thanking you for everything you have done for our company. I have worked for nine CEOs during my career in HP and you reflect the values of our founders and our company better than anyone. Your leadership has been a source of strength and it has positioned HP well for the future. I'm grateful for all the time we have spent working together side by side and I look forward for our continued partnership over the coming months. I know I speak for everyone at HP when I say that we will always heed your advice to keep raising the bar. You will always be the first CEO of HP Inc. I also want to thank HP's Board of Directors for the confidence they have placed in me and I would like to thank the extended HP team for their support and key contributions. 30 years ago, I was an engineering student in Spain. A group of HP engineers came to my school to share their passion for a printer. I had never seen anyone so passionate about a product and about changing the world through innovation. It opened my eyes to new and wonderful possibilities. It taught me that imagination has no limits, but it inspired me to join this company. Today, I continue to be inspired by this company and a unique ability to bring out the best of humanity through the power of technology. Each day, our people across the company are constantly creating game-changing innovation that pushes the limits of human potential. Our opportunities to grow digital manufacturing and graphics printing, redefine the model of computing and transform print are vast. This is the magic of HP and it is why I am so excited about our future. In separation, we have built on the foundational strengths of HP, which include our powerful portfolio, operational excellence, rigorous cost management and purpose-driven culture. Yes, as far as we have come, I believe we have great opportunities to do more and to continue our invention journey. An important part of our strategy is to focus on delivering short-term results and setting the company up for success in the long term. As part of the review I have been leading with the board, we focused on growth, but also on simplifying our operating model, evolving our business model and driving significant improvement in our cost structure. Our end objective is to create a more digitally enabled, customer-centric organization. It's critical that we do so because the needs of our customers are rapidly changing and we must become a more agile organization that is primed to fully capitalize on the opportunities ahead. I have great confidence in our ability to deliver sustainable returns to our shareholders and I can't wait to share my thinking and vision with you at our investor update in October. I would now like to turn the callback over to Dion and Steve to discuss the third quarter results.

Thanks Enrique. I am truly proud of the work we have done to reinvent HP and I have no doubt you will be successful. Now, let me turn to the quarter. We have a solid operating and financial foundation in place, which was on display once again in quarter three. We delivered revenue of $14.6 billion, up 2% in constant currency. Non-GAAP earnings per share of 58 cents,

up

12%. And we generated free cash flow of $2.2 billion while returning almost $800 million to shareholders in the form of stock repurchases and dividends. And we have also raised the midpoint of our full year non-GAAP EPS guidance. Our positive performance demonstrates HP's strong foundation and ability to compete successfully in the global marketplace that continues to be shaped by opportunities and challenges, including macro and geopolitical uncertainties. These results also reflect the consistent focus on executing our strategy and our leadership in key markets. We are still in the relatively early days of HP's reinvention and you are going to see Enrique and the team taking actions to build on our progress. Now, let me provide more detail on our business group performance in quarter three. It was an exceptional quarter for Personal Systems, with revenue up 6% in constant currency and operating profit increasing 51%. We are achieving these results with incredible innovation across the Personal Systems portfolio anchored in a relentless focus on customer insights. We launched more than 40 innovations in the quarter. We also continue to invest in key priorities including new products, services and solutions. In the commercial business, we are meeting the needs of an increasingly mobile workforce. This quarter, we launched our latest Elitebook X360 lineup, which includes convertibles with up to 24 hours of battery life. More broadly, we continue to expand our security leadership position across our segments. This quarter, we rolled out HP SureSense across our latest Elitebooks and Zbooks, leveraging artificial intelligence to enable real-time malware protection. It's a similar innovation story in our consumer business, where we continue to set new benchmarks in design, performance and security. Our latest HP Envy series features new stunning materials, our integrated privacy screen and the HP webcam kill switch, which enables users to electrically turn off their webcams when not in use. No more post-it notes or stickers required. And in gaming, our Omen ecosystem continues to thrive. At Gamescom this week, we announced a new lineup of cutting edge displays and accessories, as well as the expansion of Omen Command Center software and services to enable players at all levels to enhance their competitiveness. Across personal systems, we're driving an aggressive, forward-looking agenda that's reinventing the way people work, live and play. And our products, supply chain and -to-market are well positioned to capture ongoing demand and navigate industry dynamics. Turning to print, revenue was down 5% driven by supplies. We once again outperformed the market in an increasingly challenging environment. HP continues to lead the print category with a sharp focus on innovative products and services. In the contractual market, which includes A3, we continue making progress and are leveraging our differentiated technology and IP to capture opportunities in the market. We achieved 10% A3 market share in calendar quarter two. From where we started, we have now reached critical mass in this important market segment. We continue to gain traction and scale, driven by the strategic decision we made to enter the A3 market and the smooth integration of Samsung printing into our portfolio. More broadly, our contractual office business and consumer instant ink portfolio both again grew revenue double digits in the quarter. In graphics, we continue to see adoption of our technology as customers increasingly go digital. Our new HP Stitch portfolio is being positively received by customers and we have had several key wins with our HP Indigo packaging presses. We are also launching new products to address customer needs and adapt to the realities of today's marketplace. In Q3, we introduced HP Neverstop Laser, the first of its kind in the industry. Designed for small business owners in emerging markets, it features toner that can be reloaded in 15 seconds with capacity of up to 5,000 pages with a very competitive cost per copy. We also unveiled HP Smart Tank for home printing which delivers best in class print quality and ink tank experience allowing for up to 38% faster printing compared with previous generations. Turning to supplies, this category remains a work in progress, particularly in EMEA. We have been aggressively addressing supplies and we are making progress relative to the strategic and operational initiatives we outlined on prior earnings calls. Strategically, we are growing our contractual businesses and adapting our business models. Operationally, among other actions, we have made and continue to make improvements in our business management systems, strengthen our pricing discipline, improve our channel partnerships and lower EMEA channel inventory levels in the tier 1 and monitored tier 2 ecosystem. We are also making senior leadership changes in EMEA. We believe these are all important steps in the right direction and there is still more work to do. We acknowledge that these changes are having a short-term impact on EMEA's results both in terms of the immediacy and the extent of the impact in the second half of fiscal 2019. In addition, we are also seeing increasing macroeconomic softness, particularly in EMEA, where we saw the most significant revenue declines and industry-wide signs of market softness. This contributed to Q3 supplies revenue being below our prior expectations. We are focused on doing the right things structurally and operationally for the business. But we need to do more. We are making significant changes in our cost structure and demonstrating market leadership with the scale to navigate a dynamic environment. Turning to our 3D printing business, this quarter marked another set of important milestones. We opened the doors to a 150,000 square foot 3D printing centre of excellence in Barcelona. This is HP innovation at its best, bringing together the strength of HP's resources along with our partners and customers in what we believe is the largest and most advanced 3D printing and digital manufacturing R&D centre in the world. We also continue to drive installations with industrial-grade customers and are seeing early traction for our multi-jet fusion 5200 solution. We are especially pleased to see customers embracing new data and software capabilities to achieve new levels of industrial manufacturing predictability, reliability, efficiency and quality. Lastly, as we grow our business, we continue to do so in ways that serve the needs of our people, planet and communities. In Q3, we published our annual Sustainable Impact Report, documenting the progress we are making. These are not just the right things to do, they are the right things to do for our business. For example, our Sustainable Impact Programme contributed to more than $900 million of new revenue in 2018, and that's a 35% increase versus the prior year. And we believe this will be a growing source of competitive advantage for HP in the years ahead. To sum up, we continue to deliver strong earnings and free cash flow, reflecting the power of the broad portfolio we've built and the ability of our teams to navigate market opportunities and challenges. We still have a lot of work ahead, we always will. I have enormous confidence in our business, our strategy and our team, including Enrique as our next CEO. You will see Enrique and the leadership team take actions to make significant changes in our cost structure, advance key strategic priorities and position HP for the future. Let me now pass the call over to Steve for more insight into this quarter's financial results.

Thanks, Dion. Before I go through the results, I just want to thank you for your leadership of HP. I appreciate your partnership, and you know that I won't be removing you from my speed dial just yet. And Enrique has already been on my speed dial for a long time, so that won't change. I look forward to a seamless transition in our partnership going forward. Our third quarter performance reinforces HP's ability to deliver consistent company results, profitably grow and effectively manage our broad-based portfolio. In Q3, we grew operating profit dollars, generated strong cash flow and delivered double-digit non-GAAP EPS growth. Our financial performance this quarter demonstrates our ability to successfully invest in our business while delivering strong financial results. We remain focused on pursuing returns-based opportunities ahead of us while also addressing challenges when we have them. This helps set up the company to deliver in the short term and generate long-term value creation. Let's look at the details of the third quarter. Net revenue was $14.6 billion, flat -on-year or up 2% in constant currency. Regionally, in constant currency, America's and EMEA were flat, and APJ grew 11%. Gross margin was 19.9%, up 1.5 percentage points -on-year, driven by disciplined execution and improved rate and personal systems. Non-GAAP operating expenses were $1.8 billion, up 9%, driven by increased investments for both growth and efficiency, including investments in innovation, targeted marketing spend, as well as investments in HP's digital infrastructure. Non-GAAP Net OINE expense was $68 million for the quarter. We delivered non-GAAP diluted net earnings per share of 58 cents, up 6 cents or 12%, with a diluted share count of approximately 1.5 billion shares. Non-GAAP diluted net earnings per share excludes amortization of intangible assets of $23 million, acquisition-related credits of $12 million, restructuring and other charges of $14 million, as well as non-operating retirement-related credits of $19 million. It also excludes a net gain of $305 million for tax adjustments. This net gain is primarily driven by the net income tax gains resulting from several tax settlements across various jurisdictions, partially offset by the tax indemnification associated with these gains recorded in OINE, which is part of the Hewlett Packard Enterprise Tax Matters Agreement. As a result, Q3 GAAP diluted net earnings per share was 78 cents. At the segment level, in personal systems, we are very pleased with our results. Revenue in the third quarter was $9.7 billion, up 3% or 6% in constant currency. By customer segment, we once again saw a divergence in performance, with commercial revenue up 10% and consumer revenue down 11%. By product category, revenue was up 8% for desktop, up 4% for workstations, and flat for notebooks. The team continued to successfully manage our overall product mix, as commercial demand remained strong while navigating some of the softer consumer markets. Q3 operating margins were very strong at 5.6%, up 1.7 points year on year. The exceptionally large increase was driven mainly by the team's continued focus on our strategy and discipline execution in a favorable commodity cost environment. Operating profit was $547 million, up $185 million from the prior year. In print, the business outperformed a more difficult market. That being said, the results were mixed. We grew commercial hardware revenue, increased our market share, and continued to make progress in our contractual offerings. However, operating margins were down 0.4 points to .6% due to lower supplies revenue. Working at the details, Q3 total print revenue was $4.9 billion, down 5% nominally and in constant currency. Commercial hardware revenue was up 3%, and consumer hardware revenue was down 10%. Total hardware units were down 9%, with commercial units down 4%, and consumer units down 10%. In calendar quarter two, HP gained market share to 44% as the overall market declined. Third quarter supplies revenue was $3.2 billion, down 7% in constant currency, with EMEA down in the mid-teens. Tier 1 channel inventory levels remained below the reduced ceilings. We are making progress on the operational and strategic plans described in prior quarters and remain confident we are taking the right action. However, with the increasing softness in the EMEA market, we expect supplies revenue to remain weak in Q4 as we continue to make progress on our plan. And thus, we expect supplies revenue to decline approximately 4% to 5% for the full fiscal year. Looking forward, we expect to take significantly more cost out of the business, while also making more financial shifts in our business model across our combined hardware, services, and supplies profit pools. The combination of these operational, market, and strategic factors means that we are not planning for supplies revenue to grow in FY20. Importantly, having said that, at our next investor update, we will share the multiple levers we have that give us confidence in growing non-GAAP EPS in FY20. Turning to cash flow and capital allocation, Q3 cash flow from operations and free cash flow were very strong at $2.3 billion and $2.2 billion, respectively. In Q3, the cash conversion cycle was minus 36 days. Sequentially, cash conversion cycle improved four days, in line with normal seasonality, with a three-day increase in days payable outstanding, a two-day decrease in days sales outstanding, and a one-day increase in days of inventory. We returned $533 million to shareholders through share repurchases and $240 million via cash dividends in Q3. -to-date, we have returned 75% of free cash flow to shareholders. Looking forward to Q4, keep the following in mind related to our overall financial outlook. We continue to expect a headwind from currency. In personal systems, we expect the pricing environment to be competitive, and in print, we expect the market to remain soft in the fourth quarter. In addition, for the full year, we continue to expect our non-GAAP tax rate, which is based on our long-term non-GAAP financial projection, to be 16% in FY19. Taking these considerations into account, we are providing the following outlook. Q4-19 non-GAAP diluted net earnings per share to be in the range of $0.55 to $0.59. Q4-19 GAAP diluted net earnings per share to be in the range of $0.51 to $0.55. We are raising our full-year fiscal 2019 non-GAAP diluted net earnings per share to be in the range of $2.18 to $2.22. And full-year fiscal 2019 GAAP diluted net earnings per share to be in the range of $2.31 to $2.35. And we continue to expect to return approximately 75% of free cash flow to shareholders through a combination of dividends and share repurchases over the course of the full fiscal year. Operator, let's open the call for questions.

Thank you. We will now begin the question and answer session. To ask a question, you may press star and then 1 on your touchtone phone. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star and then 2. We also ask that you please limit yourself to one question and a single follow-up. Our first question will come from Katie Huberty with Morgan Stanley. Please go ahead.

Thank you. Good afternoon, Dion. I've really enjoyed watching you succeed as CEO. Sorry to see you go, but best wishes for both you and your family. In terms of questions, the midpoint of fiscal fourth quarter EPS guidance is down a penny versus the fiscal third quarter. If you look at the past two years, EPS expanded in the fourth quarter. Can you just talk about some of the incremental headwinds that are driving the worst seasonality this year and then I have a follow-up?

Sure. I'll take that one, Katie. We've been steadily delivering all year on our EPS, and as you know, we did increase the full-year outlook on the strength of Q3. I would describe Q4, we were remaining prudent and balancing our current view of the risks and opportunities. Maybe I'll just touch a little bit on what we're thinking and our outlook for personal systems in print. So for personal systems, we'll still have a CPU-constrained environment across certain products. We're assuming that the incremental China tariffs on OPEC do not happen in Q4, according to the existing plan of record. But importantly, for the guidance, we're expecting a dynamic and competitive pricing environment. With some of the supply chain costs and benefits we had in Q3, softening as we enter into Q4. So in essence, the headwind we are seeing in FX offset by some of the supply chain tailwind that we've had from a cost perspective will steady out in Q4. In print, expecting the overall print market to be soft. We'll continue to look for opportunities to place units. That being said, we do expect that the units could be impacted, assuming the tariffs are impacted, which could mean we've raised prices and could impact units, but less of an issue on operating profit dollars. We are expecting supplies declines closer to our Q3 results in Q4, but we do expect to drive overall expense management. So when I take that all into account, it's sort of a prudent guide with confidence we can deliver within the range of $0.55 to $0.59.

Thank you for that. Printer supplies, as you mentioned, down 7% was worse than expected. You talked about some of the macro headwinds. But how did you perform in the inventory drawdown in EMEA? Your partner, Canon, suggested that the drawdown is now over and growth can improve in the back half of the year. Do you share that view or how much inventory depletion and investment to drive branded supplies market shares is still left to come into the model in the fourth quarter?

So I said previously the sizing of the overall inventory is a triangulation, given our lack of visibility into the entire channel ecosystem. But I'll start with some of the data to address your point, Katie, and then I'll provide some additional color. So in EMEA, since Q1, we brought down our channel inventory dollars that we monitor. So this is both the Tier 1 and parts of the Tier 2 where we have visibility. The total channel inventory dollar reduction is nearly the $100 million that we initially estimated. So we have made good progress. However, it's not possible to specifically quantify wind impact we've made in the rest of the unmonitored downstream ecosystem. In addition, we do know that we've been reducing channel inventory dollars at the same time the EMEA market is softening, which is the right thing to do and important business discipline. It does make it more difficult to distinguish the market factors versus operational factors. It's important that we continue to maintain our Tier 1 channel inventory under the reduced ceilings globally, which we are, and we're also improving the monitoring of our Tier 2.

Our next question will come from Shannon Cross with Cross Research. Please go ahead.

Thank you very much. And Deanna, I want to echo Katie's comments. We've enjoyed working with you and we want to hope for the best for your family. My first question is just if we can understand a bit more about what's going on in printing. And I don't know if Enrique is still around, but I'd be curious as to how much of this seems to be a secular shift. I mean, we started to hear a lot more concern out of the Japanese in the most recent quarter that they reported relative to some of their prior commentary, not just Canon, but others. So I'm curious if there's something really changing here or if you think it's more, you know, again, the macro pressures. And then I have a follow up. Thank you.

So Shannon, thank you for the question. Let me talk first about supplies and then I will give you an overall view of the print market. On the supply space, as we discussed in Q1, we see two different types of issues, some more operational, some more strategic. The strategic issues are going to be, will have a longer term impact and we think will be impacting us not only this year, but also the years to come. And these are those that some of our competitors have also been highlighting. During the last year, we have created a very attractive profit pool of supply that now has attracted many other companies to try to attack it and capture a portion of it without having to have the significant investments that are necessary to create the hardware install base. And because of that, we see an erosion of the overall profit pool that according to our model means a reduction in share and a reduction in price. So we are experiencing that and many of our other competitors are experiencing similar dynamics. On top of that, during the last quarter, we have seen a slowdown in the economy. We have seen an economic slowdown and this is also having an impact, especially in the consumer side. So when we look at the combination of all the factors I described, you can understand many of the comments that many of the other companies in the industry have been making during the last quarter.

Thank you. And maybe, I don't know if you want to take my follow-up question, but I'm curious as, and I know I'm not trying to front run what you're going to say at the analyst's day, but as you look at some of the top line pressures that you're facing and the fact that PCs are going to go, probably will be under pressure next year following the end of life for Win 7 and the Win 10 refresh. How does that impact your thoughts on investment in some of the other areas that the company is looking at like 3D printing and the A3 market? Will that shift any of where the spend is going? Thank you.

I'll maybe address that first and then, Ricky, if you want to chime in, Shannon. And so I think the reality is that we expect to continue to do both. It's about investments and innovation and also productivity and efficiency. And as you heard in our prepared remarks from both Dion and Ricky and myself, we do think that there's an opportunity to take significant costs out of the business while maintaining our investments for growth. I mean, just to give you a little bit of context, as you all see in our P&L, but we've got over 50 billion of annual spend. So we've got a rather large addressable spend opportunity to go after across cost of goods in OPEC. So really every percentage point here really matters. And so you'll be hearing more about the opportunities we see in the months ahead and at the investor day. But overall, we can sort of align our cost activities with our growth and investing activities.

I think, Shannon, you will see that our plan going forward is going to be aligned around three different complementary directions. First, we need to continue to expand into some of the growth opportunities that we had identified in the past. 3D printing, contractual businesses are all opportunities for us to grow. At the same time, we need to continue evolving our business model. I highlighted that already last year during the investor day, and we will share some of the progress and the plans that we have to double down in this space. And third, we have a great opportunity to create value by continuing to simplify our company, get close to customers, getting closer to customers at all and also reduce our cost structure. Because this reduction in cost structure will give us also the opportunity and the capacity to continue to invest in the growth area.

I guess to round that out, I'd just finally say that that's what gives all of us, myself, Steve and Enrique, the confidence of these multiple levers that we see and gives us that confidence in our ability to grow EPS again next year.

Our next question will come from Tony Sacanagi with Bernstein. Please go ahead.

Yes, thank you. And let me reiterate previous comments. Dion, I wish you all the best and for your family going forward. And Enrique, look forward to working with you more closely. I just wanted to follow up on the printing. So, it sounds like things have gotten notably worse in the last couple of months because, as you noted, your guidance originally was supposed to be down 3 percent, and you were tracking to that through the first half of the year. And now you're suggesting it's going to be down 4 or 5, which would suggest that the second half is going to be down 6 or 7 percent, which is dramatically worse than you had thought. And I think initially you thought through tactical improvement, things might actually get a little progressively better over the course of the year. And so, if I just reflect on the magnitude of that change in outlook, are you really suggesting that most of this is a bigger strategic headwind from cloning and alternatives than you had originally thought? Or are you suggesting that the economic weakness in Europe is the principal driver? Because I guess my observation would be globally the economy is still pretty healthy. And so, if we're saying with a relatively healthy global economy, normalized supplies growth is minus 6 or minus 7, that's pretty rough to me. So, perhaps you could clarify that. And I have a follow-up, please.

So, why don't I maybe provide some financial context and hand it over to Dion for additional color. So, in the first half, our total supplies revenue was down 3 percent. EMEA was down roughly 9 percent in the same period. And then in Q3, total supplies was down 7 percent, with EMEA down mid-teens. I say that because I want to be very clear that our supplies performance continues to be driven by EMEA.

Yeah, let me turn you out a bit of context here. There's two primary factors here that are occurring simultaneously. The first one is, as we look across the macroeconomic environment, particularly in EMEA, we're seeing even more uncertainty in industry-wide market softness. And secondly, as I described in my prepared remarks, we're making progress in the plans we outlined on the prior meetings calls and taking the appropriate structural and operational actions, including our marketing and our brand protection, business management systems, as well as our deal pricing discipline that we've talked about in the past, just to name a few. In addition, we're making senior management changes in EMEA, and all of these are designed to put our EMEA print business on a stronger footing. And while we had expected that these changes would create a short-term impact in the channel, we underestimated the immediacy of the reaction and the size of the impact on the back half of the year. And it's the combination of these two factors that have the -than-anticipated decline in EMEA. But as Steve mentioned in his prepared remarks, we are confident that in spite of all of this, we can navigate through these challenges and hit our senior metrics of EPS and pre-cash flow. And finally, we're confident in the multiple levers that we see, and that, again, gives us confidence in our ability to grow EPS again next year.

Thank you for that. Just to change topics, as you noted, the PC margins were exceptionally strong this quarter. And Steve, it sounded like your guidance for Q4 and your description of a more competitive PC environment was suggesting that margins may not be as strong. But how do we think about normalized PC margins? I think you had at one point said three to five and then sort of lowered that to three to four. What do you think is normalized and how quickly do you feel that the falling component prices will ultimately be passed along to end customers?

So we do view Q3 as an exceptional quarter for us, growing operating profit dollars, $185 million in personal systems alone. And I do want to give kudos to the team. They stuck with the strategy. They've remained disciplined. Candidly, they've been remained disciplined all year with a -to-date performance of 4.7 percent up margins and over $300 million of profit dropped from that segment alone. But to directly address your question, we do expect margins to normalize back, I would say, into the three to five percent range, Tony. Our goal of approaching the higher end of that over time, there will always be more shorter term headwinds and tailwinds, whether it be commodity costs, effects, other pricing dynamics that tend to move pretty rapidly. What we're focused on is the longer term shift of our mix and improvement of our portfolio across our products and services. And this is a stickier, more structural margin improvement that we expect to get over time. Again, with the goal of getting to the higher end of that three to five percent over the years ahead.

And I think, Tony, you've seen the team very consistently over multiple years deliver against that strategy, and that's what you can expect from us in the future.

Our next question will come from Amit Duryani with Evercore. Please go ahead.

Thanks a lot for taking my question, guys, and beyond best wishes to you and your family in the future. I guess two questions for me as well. Given the supplies discussion we've had so far, versus what you guys thought 90 days ago, how much of the shortfall is the macro getting worse versus execution issues? Is there a way to split those two buckets up? And then, Dion or Enrique, I'd love to hear your conviction and confidence on why you think these issues do not spread beyond EMEA to North America or APJ as well.

So on the first part of it, it's really hard to bifurcate the data between what's the two actions or the two items that Dion described, sort of the actions we're taking in the market and how that's changed. What I will highlight, I think it's important to highlight, is if you just reflect on the first half of the year in print, our supplies were down 3 percent. And we grew operating profit dollars in that period. And I do want to acknowledge we did not grow OP dollars in print in Q3, given the larger supplies decline. But we do have multiple levers across our print business from more profitability in our hardware services, more growth in our growth initiatives, as well as cost structure items to address in print. So there are other levers beyond supplies. Yeah,

I'll also chime in here and then I'll ask Enrique to give us his thoughts. But as I discussed in Q2, we continue to make progress on the action plans that I laid out in February. Our supplies task force is really taking the appropriate and very decisive steps in EMEA to put our supplies business in better fighting shape in light of the industry-wide and macro headwinds that we're seeing. We expected an impact from these actions, but the size and the timing of the ripples caused in the back half of this year is something that we underestimated. And I'm sure Enrique can give you sort of a little more color on our progress there as well.

Okay, so let me cover first some of the operational improvements that we have made. Because as we outlined in Q1, the nature of the problems are both an operational and a strategic side. On the operational side, we are allowing for areas of progress, so let me share some of them. We said that we needed to increase our investment in demand generation in the online side. We have done that and we have seen the progress. For example, in most of the key European markets, we have seen a 10-point improvement in coverage when customers look for us for supplies in Google. We have also doubled down in our brand protection activities, both increasing our efforts to fight counterfeit, but also in protecting our IP. And protecting our IP is something that we have done by ourselves, but also you have seen Canon taking very decisive actions in the side of the portfolio where they own the IP. We have also continued to improve the visibility that we have in the tier two space. And just in Europe, we have increased the number of reporting partners by 50%. And as Jeroen said in Q1, we have also improved our business management system. We have centralized pricing decisions and we have changed and improved the controls around our discount policies, again, to make sure that we manage the business more effectively. As you can see, these are both very broad and deep actions, and it will take some time until we see the full effect of all of those.

Our next question will come from Anada Barua with Loop Capital. Please go ahead.

Hi. Good afternoon. Thanks for taking the questions. And again, Dion, I'll echo the sentiments of everybody on the call. It's been great working with you. I thought you did just a really fantastic job with the company and wish you and your family all the best in the future. So, yeah, good luck. Good luck. Two, if I could, I guess just sticking with supplies, and then I went on PCs. Any sense of how long you think, I guess, getting to sort of call it critical maps with some of the structural channel dynamics in Europe will take? It sounds like you have some sense of what's going on since you've adjusted the guidance here. And I know you're going to give updated guidance to the analysts today, but it would be helpful to get some sense of how many quarters we are, how many months we are, from you guys kind of getting structural critical maps. And then I have a follow up.

So maybe I'll take that one first. And as I said in my prepared remarks, and I think Enrique went into a long detail about FY20 and the strategic and operational things. So I would bifurcate the two. So on the operational side, what we're driving in EMEA, we are making good progress. And yes, the timing and the immediacy of the impact was higher than we anticipated, but we are making good progress and would expect to work through these operational changes in relatively short order in the quarters to come. As it relates to the more strategic impact, that's a more sustainable impact for us and is really the primary driver of why we don't expect supplies to grow in FY20. That being said, as I commented previously, we have multiple levers. We have demonstrated this through the first half of the year of growing operating profit dollars, even with our supplies business declining. We've got levers around the growth initiatives that we're driving. We've got levers around the business model itself, the shift to contractual, to shift to more profit in hardware and services itself. And we've got levers around our cost structure and the significant cost saving opportunities. And these things holistically is why we have confidence in our EPS plans for next year to grow. We've been working on this plan as a team, Enrique, Dion, myself, and the leadership team, and we're all confident in our ability to grow EPS next year.

The strategic problem on the supply side will be we are addressing by business model changes. The acceleration of our printing as a service business is critical there. You have seen us introducing printers with a different business model, both on the ink side and in the laser side. And actually, we are leading now many of these markets. And also, we will be looking at our cost structure. We will continue to reduce our cost structure to make sure that we deliver on the EPS goals that Steve was mentioning before.

We look forward to laying all these plans out with you at the investment meeting.

And guys, is it possible to return to growth at any quarter in fiscal year 20?

I'm assuming that question was in relation to supplies. And I don't think we want to get in comments specifically on any particular quarter. Again, I think we're looking at our portfolio holistically about the ability to drive the company results, both earnings per share and cash flow. I do want to also highlight we have a strong personal systems business that represented 42% of our operating profit in Q3. So we have multiple levers at our company to grow our earnings per share.

Our next question will come from Tim Long with Bartley's. Please go ahead.

Thank you. Yeah, just two if I could. First, just give us a little color on the personal system side. The consumer has been tough the last few quarters. Just give us a little insight into what it's going to take to get that segment going again. And then second on the A3 side, you mentioned getting a 10% and getting some scale there. What does that scale mean? When do we start seeing some more supplies pull through? What does that scale gain you when it comes to the financial model? Thank you.

Yeah, so when we look at our personal systems results and actually our company results, we did see a softer consumer similar to what we saw last quarter and a stronger commercial. I think when we look at the results, we are seeing softer consumer across the board with a stronger commercial. So some of that is driven on the personal system side by the supply and availability of supply we're getting and demand shaping as appropriate. It's important that you all understand we've got a very diversified portfolio across consumer and commercial. Even commercial is SMB enterprise and we sell into the industrial space. So given the diversity of the geographies we play in and the product portfolio that we have and customer segments that we play in, we feel like we can manage through up and down environments.

Yeah, and as it relates to the second question, we've said all along that we'll be very strategic and systematic in how we go after this $50 billion plus A3 market. I've also said on many occasions that customers don't think about their printing in context of A3 or A4. In fact, many of them don't even know the difference. They think about their overall printing solutions. And I realize that we set a 12% share target by the end of 2020, but our overall focus has always been on building a contractual business and A3 is a key element of that strategy. It's also been important that we validate our technology and achieve critical mass in a competitive field and we're doing just that. We achieve double digit market share at 10% and we expanded our OEM partnership that we announced earlier in Q3 with Xerox, which further validates the strength of our strategy and the product portfolio. So I'm really not fixated on getting to 12% share by any particular period. I'm not saying that we will or we won't, but what is important is we build the right distribution and partners to penetrate the contractual office. So from the customer's perspective, which is what guides us, what I can say is the overall printing solution is what matters most. And when you combine our A3 products, our technology, our channel and our overall capabilities and they couple that with our market leading A4 presence, we really have a very compelling and formidable portfolio. So remember our larger strategy is to grow in contractual and to evolve our business model into more services and solutions.

Our next question will come from Jerry Ong with Deutsche Bank. Please go ahead.

Hi guys. Thanks for letting me ask the question. So print margins have degraded to kind of the lowest point in at least a couple years. I think asking, focusing on printing a different way, is there a scenario where print margins maintain even if supplies revenues decline? And what would be the growth drivers in other businesses perhaps to get the margins to stabilize?

I think it's important that we communicate our focus is on operating profit dollars. It always has been. It's OP dollars and not rated any particular quarter. As I alluded to earlier, we have different levers, not just supplies to drive our profit dollars. As it relates to the rate specifically, we did deliver a .6% OP margin in Q3. It is below our target of at least 16%. I would expect Q4 margins to remain weaker given my supplies commentary and probably be more in the range of our Q3 margins as we work through the EMEA supplies challenges and overall print market weakness. That being said, in the near term, our annual out margin target remains at at least 16%. But to reiterate, our focus is on OP dollars and opportunities to drive even more operating profit dollars outside of supplies with the items I talked about earlier today.

Look, additionally, I would add that at the company level, we're really proud of how we manage our total portfolio and we continue to deliver consistently against our senior metrics of earnings per share and free cash flow commitments that we make. I think you should draw great comfort from this and that this highly experienced team knows how to operate in both up and down markets and how to respond positively to the inevitable business challenges that are just part of business.

Thank you, Scott. I appreciate that. I got another one, but I'll flip over to the PC side. There's about 130 basis point improvement quarter on quarter in margins. So it seems like while some of your peers might have seen better margins in their PC businesses a quarter earlier probably due to memory components, it seems like you're predominantly seeing the memory prices better in the latest quarter. I guess is there any way that you guys have thought about breaking down how much of this quarter on quarter increase in margins was due to components versus perhaps better mix for more consumer versus or better mix or more commercial versus consumer? I'm sorry. And anyway, you can break that down for us.

Well, when I say it's all of the above, I mean, we continue to make progress. The team has been very disciplined with their pricing strategy, but are also our overall personal systems mix on a year of your basis continues to improve. I don't think I'm going to break it down specifically, but as to the earlier question, I believe from Tony, our operating margin rate target is between 3 to 5 percent. And over time, our plans are to drive to the upper end of that rate.

So unfortunately, we're out of time and I want to thank everyone for joining us today. I also want to extend a personal thank you to all of you for your warm wishes and for your personal support over the years. It's been an honor working with you. We obviously have a lot to talk about today. Four years ago, many people doubted this business. We didn't. We reinvigorated this business and reinvented HP. The team's executing against our strategy and investing in innovation while simultaneously taking cost out of the business. And we always have to do both. Both. As a result, we've delivered consistent free cash flow and met or exceeded our non-GAAP EPS outlook for the last 15 out of 15 quarters. I like that batting average. Enrique, you need to continue that. We have a strong foundation, a really strong foundation, a powerful portfolio. We have world-class talent. We have a culture of performance. It's been an honor to serve as CEO of this iconic company. Enrique has been a tremendous partner to me as we've reinvented HP. I couldn't be more excited and optimistic for him and for the future of HP under his leadership. I'm 100% focused on finishing out Q4 and the fiscal year and to ensuring a smooth transition at the company that I love. And then to look forward to continue to guide the company as a director moving forward. Thank you very much.

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