Hewlett Packard Enterprise (HPE) closed its first 12 months operating as a stand-alone company in a period of ongoing transformation, as reflected by the company's reported financial performance during 3Q16 (ended Oct. 31, 2016). Customers' migrations to hybrid environments of disruptive new data center architectures, including hyperconverged platforms, and IT resources delivered “as a Service” accelerated during the year. This trend spurred HPE to announce its intent to “spin-merge” many services and software assets to CSC and Micro Focus, respectively, in favor of sharpening its focus on its infrastructure roots, and during 3Q16 dragged down the company's revenue 7% year-to-year. However, the company's focus on cutting costs, shedding noncore assets and emphasizing most profitable deals drove operating margin up from 0.9% in 3Q15 to 6.2%, facilitating near-term leverage for key investments, such as its acquisition of high-performance computing (HPC) solutions provider SGI, which closed in November.
As opportunities for HPE to cut costs and shed assets decline, further monetizing next-generation infrastructure solutions will increasingly influence the vendor's bottom-line performance and investment ability. HPE reported segments such as HPC, Cloudline hyperscale servers, all-flash storage and Aruba Wireless LAN (WLAN) as leading growth drivers during 3Q16. However, the company endured headwinds in traditional businesses, including competitive pressures in mainstream industry-standard rack server markets and slowdowns in other areas, including converged storage. As a result, HPE's core Enterprise Group (EG) data center revenue declined 9% year-to-year during the quarter, and the segment's report operating margin fell 40 basis points year-to-year to 13.2%.
HPE executives are communicating a clear vision for bolstering areas of weak go-to-market execution, for example collaborating with channel partners to ramp adoption of its Synergy Composable Infrastructure portfolio and drive volume server sales, which will help to quell near-term revenue declines and, from a more strategic standpoint, position HPE to extend its footprint in future-forward IT infrastructure environments. More challenging, TBR believes, for HPE will be continuing to ramp sales and brand recognition around its higher-margin Technology Services (TS) organization and evolve its stance as a provider of end-to-end solutions in areas such as analytics, as its ongoing portfolio restructuring limits in-house expertise and adds some ecosystem confusion.
Evolving core server innovation models positions HPE to preserve its market traction as customers modernize their data centers
HPE's long, proven track record of maintaining an extensive and innovative server portfolio enables the vendor to sustain the world's largest server revenue base — more than $1 billion larger than its closest competitor during 2Q16, according to TBR's most recent Data Center Benchmark. HPE initiatives such as Synergy Composable Infrastructure and The Machine align the vendor's server franchise with future-forward, more scalable, modular and data-centric compute models, enhancing HPE's ability to protect its core beachhead in customers' data centers.
TBR believes HPE will remain the globe's largest server vendor for the foreseeable future, but TBR's Data Center Server and Storage Market Forecast 2015-2020 indicates HPE will endure some market share attrition during the next three to five years. Share loss will be driven in significant part by the ability of ODMs such as Inspur to quickly and cost-effectively fulfill large volumes of customized servers for the globe's largest cloud server providers. In addition to weathering this macro trend, HPE will face strengthened competition from the heritage Dell server team, which TBR expects to adopt a quicker-moving and more aggressive innovation strategy than in the past, as it embraces the portfolio development culture of its recently acquired EMC entity. Additionally, we note IBM utilizing a more open innovation model to modernize and expand the addressable customer base of its high-end, previously fully closed Power and System z platforms.
HPE is investing heavily in R-D initiatives such as Synergy and The Machine, and previous monetization initiatives for other platforms such as its Apollo hyperscale servers have not always been completely effective. Utilizing its narrowed and more agile business structure to further break down silos across HPE's compute, storage, networking and software development teams while closely monitoring and reacting to evolving market dynamics, including workload segmentation across next-generation architectures, will enable HPE to drive revenue returns and ensure its ongoing ability to invest in innovation. Additionally, a focus on consistent execution on comprehensive advisory and support capabilities as HPE transitions its services strategy will help HPE protect customer loyalty and differentiate as the competitive landscape evolves.
HPE is capitalizing on storage industry disruption to maximize its share in next-generation data centers as well as future customer loyalty
The lines of business in customer organizations seek to more efficiently store and utilize exponentially growing, heterogeneous data pools as a key lever for bottom-line advantage. Storage-related cost and manageability pressures emerge as a leading pain point, as IT departments move to accommodate these new requirements. Disruption to customers' foundational IT architecture requirements — as well as subsequent disruptions in the vendor landscape at large — creates opportunity for HPE and its peers to capture accretive revenue opportunities and solidify go-forward customer and partner loyalty. For its part, HPE is increasing innovation agility, driving cross-sales and competitive displacements, and evolving its stance as an IT infrastructure, and consequently business, modernization adviser to maximize its ability to capture this opportunity.
HPE is rolling out portfolio updates, spanning mission-critical and SMB-focused offerings that utilize capabilities such as flash storage, enhanced scalability, and compression and deduplication to address customers' needs for more agile and efficient, faster-performing storage architectures. With these updates, HPE aims to expand its footprint in customers' core storage environments, as they seek to run legacy and modern workloads on increasingly heterogeneous IT resources with greater flexibility, simplicity and cost-effectiveness. Additionally, HPE is targeting the rising need for data aggregation and processing at the edge. As a result, TBR notes HPE is building from its historically server-centric traction to bolster its stance as a provider of comprehensive, innovative storage technology.
However, HPE's path forward will remain characterized by substantial competitive pressures. Notably, the heritage EMC organization has always been fast-acting and cutting-edge, willing to cannibalize existing revenue streams to protect its customer base and gain access to next-generation storage markets. It now has access to Dell's modular, scalable compute capabilities and supply chain prowess. Meanwhile, pure play vendors in disruptive areas of the storage market, such as hyperconverged platforms and all-flash storage, move with focus and agility to build presence as mainstream storage providers.
TBR believes HPE will continue to gain storage market share, but gains will be somewhat muted as its pending spin-merges of many software and services assets add a degree of go-to-market complexity and ecosystem confusion. HPE will reduce the impact of this risk on its business by building out and message its know-how in software-driven areas such as data protection and application acceleration, perhaps with the support of select acquisitions for niche IP and market consolidation. Additionally, as customers seek support during their quest for storage optimization, augmenting its table stakes hardware and software support services with select, infrastructure-centric advisory and managed services to protect its position as an enabler of broader IT transformation engagements will help HPE to differentiate as Dell EMC, Lenovo and others also seek to capture modernization-related deals.