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HP's Next CEO Should Throw Back EDS

Mark Hurd landed a big fish when he acquired the Texas-based outsourcer, but under HP the prized catch is gasping for air.

Deposed HP CEO Mark Hurd bought outsourcer EDS two years ago for $13.9 billion. The deal made Hurd and his executive team richer, but only made the company a bigger player in tech services—not better.

Contrary to Hurd's promise at the time, HP's takeout of EDS has proven to be a classic "bolt-on" acquisition, where one-plus-one equals two, or maybe one-and-a-half. The deal has yielded little in terms of value creation, innovation, or customer benefits. Indeed, CIOs now have fewer outsourcing vendors to choose from in the wake of the merger.

As for shareholder value, the card most frequently played by Hurd's defenders, one share of HP was priced last week (before Hurdgate took down HPQ) about the same as when the company closed the EDS deal on August 26, 2008. You could call it a wash, were it not for the almost $14 billion in investment capital HP could have put to better use elsewhere. Oh, and the 18,000 tech services jobs that will be lost by the time all's said and done.

In fact, "wash" may be too optimistic. There's evidence EDS suffered significant customer attrition following its acquisition by Hewlett-Packard. HP's service revenues in the twelve months before EDS bolstered its books were $18.2 billion. In the first year with the Texas outsourcer fully in the fold (fiscal 2009), its services sales jumped to $34.7 billion, an increase of 91%. But that's not as impressive as it sounds.

EDS's services revenues, mostly from outsourcing, in its last full year as an independent company, 2007, were $21.2 billion. So if HP had only managed to maintain EDS's prior sales levels, its revenue from services after year one should have been in the neighborhood of $40 billion. In other words, the combined services businesses of EDS and HP shrank by about $5 billion after the deal.

To boot, HP's share of the worldwide tech services market fell from 7.8% in 2008, to 7.3% in 2009, according to Gartner. That's probably not what Hurd had in mind when, in a press release heralding the buyout, he proclaimed that, "The combination of HP and EDS will create a leading force in global IT services."

The shrinkage shouldn't be surprising, given the turmoil generated by the deal. HP whacked 9,000 services employees at the outset, and just two months ago said it planned to eliminate another 9,000 services jobs as part of a plan to "invest" $1 billion in its outsourcing business.

In a brilliant example of the biggest knock against Hurd—that he's big on cutting and small on driving organic growth—HP in this case literally defined "investment" as the charge against earnings it will take over the next several quarters to cover the cost of the layoffs.

Services employees also complain that Hurd instituted policies that had a disproportionate drag on morale given the relative pennies saved. One insider told InformationWeek that staffers recently forced into home offices by facilities consolidations must pay for their own Internet services. The kicker: they can't save by purchasing "triple play" plans because HP does not consider the VoIP service typically bundled with such packages secure enough for business calls.

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