HP 2005 Annual Report Download - page 53

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HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
Management’s Discussion and Analysis of
Financial Condition and Results of Operations (Continued)
servers and storage gross margins comparisons were favorably impacted by execution issues and
business challenges that unfavorably impacted the performance of industry standard servers and storage
in the second half of fiscal 2004.
ESS net revenue increased 4% in fiscal 2004 from fiscal 2003. Revenue on a constant currency
basis decreased 2%. The favorable currency impact was due primarily to the weakening of the dollar
against the euro. In fiscal 2004, ESS performance was hurt in the third fiscal quarter by execution
issues, namely a systems migration in the U.S., channel management issues in EMEA and weakness in
storage. However, ESS net revenue growth was helped by industry standard servers’ unit growth of
22%, which translated to a 12% net revenue increase from fiscal 2003 in that category.
Net revenue in business critical systems declined by 2% in fiscal 2004 as compared to fiscal 2003,
reflecting the ongoing decline of the AlphaServer product line. RISC and Integrity servers experienced
revenue growth. We introduced mid-range and high-end Itanium-based products widely in fiscal 2004,
and sales continued to increase during the year, with Integrity servers representing 13% of business
critical systems (including NonStop servers) in the fourth fiscal quarter. HP-UX server revenue
increased 2% from fiscal 2003, offset by declines in Alpha as we transitioned customers to non-Alpha
products. NonStop server net revenue declined 1% from the prior year, reflecting a maturing installed
base.
Storage net revenue declined 7% in fiscal 2004, with declines in both the overall array and tape
businesses. Net revenue declines from fiscal 2003 were due primarily to our exposure to the declining
tape market, aggressive pricing, inadequate storage sales specialist coverage and some product updates
that occurred late in fiscal 2004. Growth in storage software and network attached storage offset
partially the revenue decline in the primary product groups.
ESS earnings from operations as a percentage of net revenue in fiscal 2004 improved by
0.1 percentage points, reflecting a 3.6 percentage point decrease in operating expenses in relation to
revenue resulting from effective cost management and increased volume in the industry standard server
business. A decline in gross margin of 3.5 percentage points offset the decline in operating expenses
and volume growth. The gross margin decline was the result of competitive pressures impacting both
the industry standard servers group and the storage business, along with a mix shift to lower margin
products within the business critical servers group and more generally, the continued mix shift towards
industry standard servers within the segment. In fiscal 2004, the business continued to focus on
increasing direct sales, improving option attach rates and reducing warranty costs in order to optimize
gross margins. Additionally, the execution issues of the third quarter that led to an operating loss in the
quarter negatively impacted full year performance.
HP Services
For the fiscal years ended October 31
2005 2004 2003
In millions
Net revenue ......................................... $15,536 $13,848 $12,402
Earnings from operations ............................... $ 1,151 $ 1,282 $ 1,369
Earnings from operations as a % of net revenue .............. 7.4% 9.3% 11.0%
49