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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549



FORM 10-Q

(Mark One)    

ý

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended: July 31, 2009

Or

o

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                             to                              

Commission file number 1-4423



HEWLETT-PACKARD COMPANY
(Exact name of registrant as specified in its charter)

Delaware   94-1081436
(State or other jurisdiction of
incorporation or organization)
  (I.R.S. employer
identification no.)

3000 Hanover Street, Palo Alto, California

 

94304
(Address of principal executive offices)   (Zip code)

(650) 857-1501
(Registrant's telephone number, including area code)



        Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 (the "Exchange Act") during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes ý    No o

        Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes o    No o

        Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act.

Large accelerated filer ý   Accelerated filer o   Non-accelerated filer o
(Do not check if a smaller
reporting company)
  Smaller reporting company o

        Indicate by check mark whether the registrant is a shell company (as defined by Rule 12b-2 of the Exchange Act).    Yes o    No ý

        The number of shares of HP common stock outstanding as of August 31, 2009 was 2,371,067,899 shares.



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES
INDEX

 
   
   
  Page
No.
 

Part I.

  Financial Information  

  Item 1.  

Financial Statements

    3  

     

Consolidated Condensed Statements of Earnings for the three and nine months ended July 31, 2009 and 2008 (Unaudited)

    3  

     

Consolidated Condensed Balance Sheets as of July 31, 2009 (Unaudited) and as of October 31, 2008 (Audited)

    4  

     

Consolidated Condensed Statements of Cash Flows for the nine months ended July 31, 2009 and 2008 (Unaudited)

    5  

     

Notes to Consolidated Condensed Financial Statements (Unaudited)

    6  

  Item 2.  

Management's Discussion and Analysis of Financial Condition and Results of Operations

    59  

  Item 3.  

Quantitative and Qualitative Disclosures About Market Risk

    101  

  Item 4.  

Controls and Procedures

    101  

Part II.

  Other Information  

  Item 1.  

Legal Proceedings

    103  

  Item 1A.  

Risk Factors

    103  

  Item 2.  

Unregistered Sales of Equity Securities and Use of Proceeds

    103  

  Item 6.  

Exhibits

    103  

Signature

    104  

Exhibit Index

    105  

Forward-Looking Statements

        This Quarterly Report on Form 10-Q, including "Management's Discussion and Analysis of Financial Condition and Results of Operations" in Item 2 of Part I of this report, contains forward-looking statements that involve risks, uncertainties and assumptions. If the risks or uncertainties ever materialize or the assumptions prove incorrect, the results of Hewlett-Packard Company and its consolidated subsidiaries ("HP") may differ materially from those expressed or implied by such forward-looking statements and assumptions. All statements other than statements of historical fact are statements that could be deemed forward-looking statements, including but not limited to any projections of revenue, margins, expenses, tax provisions, earnings, cash flows, benefit obligations, share repurchases, acquisition synergies, currency exchange rates or other financial items; any statements of the plans, strategies and objectives of management for future operations, including the execution of cost reduction programs and restructuring and integration plans; any statements concerning expected development, performance or market share relating to products or services; any statements regarding future economic conditions or performance; any statements regarding pending investigations, claims or disputes; any statements of expectation or belief; and any statements of assumptions underlying any of the foregoing. Risks, uncertainties and assumptions include macroeconomic and geopolitical trends and events; the execution and performance of contracts by HP and its customers, suppliers and partners; the challenge of managing asset levels, including inventory; the difficulty of aligning expense levels with revenue changes; assumptions related to pension and other post-retirement costs; expectations and assumptions relating to the execution and timing of cost reduction programs and restructuring and integration plans; the possibility that the expected benefits of business combination transactions may not materialize as expected; the resolution of pending investigations, claims and disputes; and other risks that are described herein, including but not limited to the items discussed in "Factors that Could Affect Future Results" set forth in "Management's Discussion and Analysis of Financial Condition and Results of Operations" in Item 2 of Part I of this report, and that are otherwise described from time to time in HP's Securities and Exchange Commission reports, including HP's Annual Report on Form 10-K for the fiscal year ended October 31, 2008. HP assumes no obligation and does not intend to update these forward-looking statements.

2



PART I. FINANCIAL INFORMATION

Item 1. Financial Statements.


HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Consolidated Condensed Statements of Earnings

(Unaudited)

 
  Three months ended
July 31
  Nine months ended
July 31
 
 
  2009   2008   2009   2008  
 
  In millions, except per share amounts
 

Net revenue:

                         
 

Products

  $ 17,606   $ 22,180   $ 53,627   $ 67,866  
 

Services

    9,749     5,757     29,700     16,619  
 

Financing income

    96     95     275     276  
                   
   

Total net revenue

    27,451     28,032     83,602     84,761  
                   

Costs and expenses:

                         
 

Cost of products

    13,538     16,821     41,047     51,091  
 

Cost of services

    7,317     4,297 (1)   22,626     12,511 (1)
 

Financing interest

    81     79     251     244  
 

Research and development

    667     895     2,115     2,701  
 

Selling, general and administrative

    2,874     3,193 (1)   8,647     9,820 (1)
 

Amortization of purchased intangible assets

    379     213     1,171     630  
 

In-process research and development charges

            6     13  
 

Restructuring charges

    362     5     602     19  
 

Acquisition-related charges

    59         182      
                   
   

Total operating expenses

    25,277     25,503     76,647     77,029  
                   

Earnings from operations

    2,174     2,529     6,955     7,732  
                   

Interest and other, net

    (177 )   23     (589 )   98  
                   

Earnings before taxes

    1,997     2,552     6,366     7,830  

Provision for taxes

    355     525     1,154     1,613  
                   

Net earnings

  $ 1,642   $ 2,027   $ 5,212   $ 6,217  
                   

Net earnings per share:

                         
 

Basic

  $ 0.69   $ 0.82   $ 2.18   $ 2.49  
                   
 

Diluted

  $ 0.67   $ 0.80   $ 2.13   $ 2.41  
                   

Cash dividends declared per share

  $ 0.16   $ 0.16   $ 0.32   $ 0.32  

Weighted-average shares used to compute net earnings per share:

                         
 

Basic

    2,382     2,459     2,395     2,497  
                   
 

Diluted

    2,436     2,533     2,442     2,577  
                   

(1)
For the prior year reporting periods presented, certain pursuit-related costs previously reported as Cost of services have been realigned retroactively to Selling, general and administrative expenses due to organizational realignments.

The accompanying notes are an integral part of these Consolidated Condensed Financial Statements.

3



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Consolidated Condensed Balance Sheets

 
  July 31,
2009
  October 31,
2008
 
 
  In millions, except par value
 
 
  (Unaudited)
   
 

ASSETS

 

Current assets:

             
 

Cash and cash equivalents

  $ 13,521   $ 10,153  
 

Short-term investments

    66     93  
 

Accounts receivable

    14,735     16,928  
 

Financing receivables

    2,532     2,314  
 

Inventory

    5,850     7,879  
 

Other current assets

    12,138     14,361  
           
   

Total current assets

    48,842     51,728  
           

Property, plant and equipment

    11,194     10,838  

Long-term financing receivables and other assets

    10,857     10,468  

Goodwill

    33,277     32,335  

Purchased intangible assets

    6,902     7,962  
           

Total assets

  $ 111,072   $ 113,331  
           

LIABILITIES AND STOCKHOLDERS' EQUITY

 

Current liabilities:

             
 

Notes payable and short-term borrowings

  $ 3,288   $ 10,176  
 

Accounts payable

    12,778     14,917  
 

Employee compensation and benefits

    3,596     4,159  
 

Taxes on earnings

    786     869  
 

Deferred revenue

    6,458     6,287  
 

Accrued restructuring

    1,421     1,099  
 

Other accrued liabilities

    13,483     15,432  
           
   

Total current liabilities

    41,810     52,939  
           

Long-term debt

    13,892     7,676  

Other liabilities

    13,835     13,774  

Commitments and contingencies

             

Stockholders' equity:

             
 

Preferred stock, $0.01 par value (300 shares authorized; none issued)

         
 

Common stock, $0.01 par value (9,600 shares authorized; 2,382 and 2,415 shares issued and outstanding, respectively)

    24     24  
 

Additional paid-in capital

    13,798     14,012  
 

Retained earnings

    28,509     24,971  
 

Accumulated other comprehensive loss

    (796 )   (65 )
           
   

Total stockholders' equity

    41,535     38,942  
           

Total liabilities and stockholders' equity

  $ 111,072   $ 113,331  
           

The accompanying notes are an integral part of these Consolidated Condensed Financial Statements.

4



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Consolidated Condensed Statements of Cash Flows

(Unaudited)

 
  Nine months ended
July 31
 
 
  2009   2008  
 
  In millions
 

Cash flows from operating activities:

             
 

Net earnings

  $ 5,212   $ 6,217  
 

Adjustments to reconcile net earnings to net cash provided by operating activities:

             
   

Depreciation and amortization

    3,546     2,268  
   

Stock-based compensation expense

    501     449  
   

Provision for bad debt and inventory

    462     296  
   

In-process research and development charges

    6     13  
   

Restructuring charges

    602     19  
   

Deferred taxes on earnings

    272     1,163  
   

Excess tax benefit from stock-based compensation

    (67 )   (213 )
   

Other, net

    (1 )   (25 )
   

Changes in operating assets and liabilities:

             
     

Accounts and financing receivables

    1,635     (437 )
     

Inventory

    1,843     (255 )
     

Accounts payable

    (2,228 )   2,171  
     

Taxes on earnings

    691     (269 )
     

Restructuring

    (844 )   (69 )
     

Other assets and liabilities

    (1,684 )   (13 )
           
       

Net cash provided by operating activities

    9,946     11,315  
           

Cash flows from investing activities:

             
 

Investment in property, plant and equipment

    (2,749 )   (1,966 )
 

Proceeds from sale of property, plant and equipment

    401     271  
 

Purchases of available-for-sale securities and other investments

    (105 )   (86 )
 

Maturities and sales of available-for-sale securities and other investments

    103     212  
 

Payments made in connection with business acquisitions, net

    (348 )   (1,478 )
           
     

Net cash used in investing activities

    (2,698 )   (3,047 )
           

Cash flows from financing activities:

             
 

Repayment of commercial paper and notes payable, net

    (6,866 )   (21 )
 

Issuance of debt

    6,778     3,054  
 

Payment of debt

    (1,181 )   (1,051 )
 

Issuance of common stock under employee stock plans

    936     1,347  
 

Repurchase of common stock

    (3,038 )   (7,720 )
 

Excess tax benefit from stock-based compensation

    67     213  
 

Dividends

    (576 )   (600 )
           
     

Net cash used in financing activities

    (3,880 )   (4,778 )
           

Increase in cash and cash equivalents

    3,368     3,490  

Cash and cash equivalents at beginning of period

    10,153     11,293  
           

Cash and cash equivalents at end of period

  $ 13,521   $ 14,783  
           

Supplemental schedule of non-cash investing and financing activities:

             
 

Issuance of common stock and stock awards assumed in business acquisitions

  $ (3 ) $ (4 )
 

Purchase of assets under financing arrangement

  $ 283   $  
 

Purchase of assets under capital lease

  $ 74   $  

The accompanying notes are an integral part of these Consolidated Condensed Financial Statements.

5



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements

(Unaudited)

Note 1: Basis of Presentation and Significant Accounting Policies

        In the opinion of management, the accompanying Consolidated Condensed Financial Statements of Hewlett-Packard Company and its consolidated subsidiaries ("HP") contain all adjustments, including normal recurring adjustments, necessary to present fairly HP's financial position as of July 31, 2009, its results of operations for the three and nine months ended July 31, 2009 and 2008 and its cash flows for the nine months ended July 31, 2009 and 2008. The Consolidated Condensed Balance Sheet as of October 31, 2008 is derived from the October 31, 2008 audited consolidated financial statements. Certain reclassifications have been made to prior-year amounts in order to conform to the current year presentation.

        The results of operations for the three and nine months ended July 31, 2009 are not necessarily indicative of the results to be expected for the full year. The information included in this Quarterly Report on Form 10-Q should be read in conjunction with "Risk Factors," "Legal Proceedings," "Management's Discussion and Analysis of Financial Condition and Results of Operations," "Quantitative and Qualitative Disclosures About Market Risk" and the Consolidated Financial Statements and notes thereto included in Items 1A, 3, 7, 7A and 8, respectively, of the Hewlett-Packard Company Annual Report on Form 10-K for the fiscal year ended October 31, 2008.

        The preparation of financial statements in accordance with U.S. generally accepted accounting principles ("GAAP") requires management to make estimates and assumptions that affect the amounts reported in HP's Consolidated Condensed Financial Statements and accompanying notes. Actual results could differ materially from those estimates.

        HP is involved in various lawsuits, claims, investigations and proceedings that arise in the ordinary course of business. In accordance with Statement of Financial Accounting Standards ("SFAS") No. 5, "Accounting for Contingencies," HP records a provision for a liability when it believes it is both probable that a liability has been incurred and the amount can be reasonably estimated. Significant judgment is required to determine both probability and the estimated amount. HP reviews these provisions at least quarterly and adjusts these provisions to reflect the impact of negotiations, settlements, rulings, advice of legal counsel, and updated information. Litigation is inherently unpredictable and is subject to significant uncertainties, some of which are beyond HP's control.

        HP evaluated all subsequent events that occurred after the balance sheet date and through the date and time its financial statements were issued on September 4, 2009.

        As previously reported in HP's 2008 Annual Report on Form 10-K, HP recognized the funded status of its benefit plans at October 31, 2007 in accordance with the recognition provisions of SFAS No. 158, "Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans—An Amendment of Financial Accounting Standards Board ("FASB") Statements No. 87, 88, 106 and 132(R)" ("SFAS 158"). In addition to the recognition provisions, SFAS 158 also requires companies to measure the funded status of the plan as of the date of their fiscal year end, effective for fiscal years ending after December 15, 2008. HP will adopt the measurement provisions of SFAS 158 effective October 31, 2009 for the HP pension and post retirement plans. HP does not expect the adoption of the measurement provisions of SFAS 158 will have a material effect on its consolidated financial statements.

6



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 1: Basis of Presentation and Significant Accounting Policies (Continued)

        In February 2008, the FASB issued FASB Staff Position ("FSP") SFAS 157-2, "Effective Date of FASB Statement No. 157" ("FSP SFAS 157-2"). FSP SFAS 157-2 delays the effective date of SFAS No. 157, "Fair Value Measurements" ("SFAS 157") to fiscal years beginning after November 15, 2008 for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). As a result of adoption of FSP SFAS 157-2, HP will adopt SFAS 157 for all nonfinancial assets and nonfinancial liabilities in the first quarter of fiscal 2010. Although HP will continue to evaluate the application of SFAS 157 to nonfinancial assets and nonfinancial liabilities, HP does not expect the adoption of SFAS 157 with respect to nonfinancial assets and nonfinancial liabilities will have a material impact on its consolidated financial statements.

        In December 2007, the FASB issued SFAS No. 141 (revised 2007), "Business Combinations" ("SFAS 141(R)"). SFAS 141(R) expands the definition of a business and a business combination; requires recognition of assets acquired, liabilities assumed, and contingent consideration at their fair value on the acquisition date; requires acquisition-related expenses and restructuring costs to be recognized separately from the business combination and expensed as incurred; requires in-process research and development to be capitalized at fair value as an intangible asset; and requires that changes in accounting for deferred tax asset valuation allowances and acquired income tax uncertainties after the measurement period be recognized as a component of provision for taxes. SFAS 141(R) also establishes disclosure requirements to enable the evaluation of the nature and financial effects of the business combination. SFAS 141(R) is effective for fiscal years beginning on or after December 15, 2008 and will be adopted by HP in the first quarter of fiscal 2010. HP is currently evaluating the potential impact of the adoption of SFAS 141(R) on its consolidated financial statements, which will be largely dependent on the size and nature of the business combinations completed after the adoption of this statement. Among other potential impacts, the adoption of SFAS 141(R) will result in the recognition of certain types of expenses in its results of operations that are currently capitalized pursuant to existing accounting standards.

        In December 2007, the FASB issued SFAS No. 160, "Noncontrolling Interests in Consolidated Financial Statements—an amendment of Accounting Research Bulletin No. 51" ("SFAS 160"). SFAS 160 establishes accounting and reporting standards for ownership interests in subsidiaries held by parties other than the parent, the amount of consolidated net income attributable to the parent and to the noncontrolling interest, changes in a parent's ownership interest, and the valuation of retained noncontrolling equity investments when a subsidiary is deconsolidated. SFAS 160 also establishes disclosure requirements that clearly identify and distinguish between the interests of the parent and the interests of the noncontrolling owners. SFAS 160 is effective for fiscal years beginning after December 15, 2008 and will be adopted by HP in the first quarter of fiscal 2010. HP does not expect the adoption of SFAS 160 will have a material effect on its consolidated financial statements.

        In May 2008, the FASB issued FSP Accounting Principles Board ("APB") 14-1 "Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement)" ("FSP APB 14-1"). FSP APB 14-1 requires the issuer of certain convertible debt instruments that may be settled in cash (or other assets) on conversion to separately account for the liability (debt) and equity (conversion option) components of the instrument in a manner that reflects the issuer's non-convertible debt borrowing rate. FSP APB 14-1 is effective for fiscal years beginning after December 15, 2008 on a retrospective basis and will be adopted by HP in the first quarter of

7



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 1: Basis of Presentation and Significant Accounting Policies (Continued)


fiscal 2010. HP currently does not have any outstanding convertible debt instruments that are subject to the provisions of FSP APB 14-1. However, HP's U.S. dollar zero-coupon convertible notes that were redeemed in full in March 2008 are subject to the provisions of FSP APB 14-1. As a result, upon adoption of FSP APB 14-1 in the first quarter of fiscal 2010, HP's fiscal 2008 consolidated results of operations and financial condition will be affected on a retrospective basis. HP does not expect the adoption of FSP APB 14-1 will have a material effect on its consolidated financial statements.

        In June 2008, the FASB issued FSP Emerging Issues Task Force ("EITF") 03-6-1, "Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities" ("FSP EITF 03-6-1"). FSP EITF 03-6-1 clarifies that share-based payment awards that entitle their holders to receive nonforfeitable dividends or dividend equivalents before vesting should be considered participating securities. HP has granted and is expected to continue to grant restricted stock that contain non-forfeitable rights to dividends and such restricted stock will be considered participating securities upon adoption of FSP EITF 03-6-1. As participating securities, HP will be required to include these instruments in the calculation of HP's basic earnings per share ("EPS"), and it will need to calculate basic EPS using the "two-class method." Restricted stock is currently included in HP's dilutive EPS calculation using the treasury stock method. The two-class method of computing EPS is an earnings allocation formula that determines EPS for each class of common stock and participating securities according to dividends declared (or accumulated) and participation rights in undistributed earnings. FSP EITF 03-6-1 is effective for fiscal years beginning after December 15, 2008 on a retrospective basis and will be adopted by HP in the first quarter of fiscal 2010. HP does not expect the adoption of FSP EITF 03-6-1 will have a material effect on its calculation of basic EPS.

        In November 2008, the FASB ratified EITF Issue No. 08-7, "Accounting for Defensive Intangible Assets" ("EITF 08-7"). EITF 08-7 applies to defensive intangible assets, which are acquired intangible assets that the acquirer does not intend to actively use but intends to hold to prevent its competitors from obtaining access to them. As these assets are separately identifiable, EITF 08-7 requires an acquiring entity to account for defensive intangible assets as a separate unit of accounting. Defensive intangible assets must be recognized initially at fair value in accordance with SFAS 141(R) and SFAS 157 and amortized over the benefit period. EITF 08-7 is effective for defensive intangible assets acquired in fiscal years beginning on or after December 15, 2008 and will be adopted by HP in the first quarter of fiscal 2010. HP is currently evaluating the potential impact of the adoption of EITF 08-7 on its consolidated financial statements, which will be largely dependent on the nature of the business combinations completed after the adoption of this statement.

        In December 2008, the FASB issued FSP SFAS 132(R)-1, "Employer's Disclosures about Postretirement Benefit Plan Assets" ("FSP SFAS 132(R)-1"). FSP SFAS 132(R)-1 requires additional disclosures about assets held in an employer's defined benefit pension or other postretirement plan. FSP SFAS 132(R)-1 is effective for fiscal years ending after December 15, 2009 and will be adopted by HP in the first quarter of fiscal 2010. HP will present the required disclosures in the prescribed format on a prospective basis upon adoption. FSP SFAS 132(R)-1 will only affect the notes to HP's consolidated financial statements.

        In April 2009, the FASB issued FSP SFAS 141(R)-1, "Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies" ("FSP SFAS 141(R)-1"). FSP SFAS 141(R)-1 addresses application issues on initial recognition and

8



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 1: Basis of Presentation and Significant Accounting Policies (Continued)


measurement, subsequent measurement and accounting, and disclosure of assets and liabilities arising from contingencies in a business combination. FSP SFAS 141(R)-1 is effective for assets or liabilities arising from contingencies in business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008 and will be adopted by HP in the first quarter of fiscal 2010. HP is evaluating the impact the adoption of FSP SFAS 141(R)-1 will have on its consolidated financial statements, which will be largely dependent on the size and nature of the business combinations completed after the adoption of this statement.

        In June 2009, the FASB issued SFAS No. 166, "Accounting for Transfers of Financial Assets—an amendment of FASB Statement No. 140" ("SFAS 166"). The most significant amendments resulting from SFAS 166 consist of the removal of the concept of a qualifying special-purpose entity from FASB Statement No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities," and, for qualifying special-purpose entities, the removal of the exception from applying FASB Interpretation No. 46 (revised December 2003), "Consolidation of Variable Interest Entities—an interpretation of Accounting Research Bulletin No. 51" ("FIN 46(R)"). SFAS 166 is effective as of the beginning of each reporting entity's first annual reporting period that begins after November 15, 2009, for interim periods within that first annual reporting period and for interim and annual reporting periods thereafter. Earlier application is prohibited. SFAS 166 will be adopted by HP in the first quarter of fiscal 2011. HP does not expect the adoption of SFAS 166 will have a material effect on its consolidated financial statements.

        In June 2009, the FASB issued SFAS No. 167, "Amendments to FASB Interpretation No. 46(R)" ("SFAS 167"). SFAS 167 amends FIN 46(R) to eliminate the quantitative approach previously required for determining the primary beneficiary of a variable interest entity and to require ongoing qualitative reassessments of whether an enterprise is the primary beneficiary of a variable interest entity. SFAS 167 also amends FIN 46(R) to require additional disclosures about an enterprise's involvement in variable interest entities. SFAS 167 is effective as of the beginning of each reporting entity's first annual reporting period that begins after November 15, 2009, for interim periods within that first annual reporting period, and for interim and annual reporting periods thereafter. Earlier application is prohibited. SFAS 167 will be adopted by HP in the first quarter of fiscal 2011. HP is currently evaluating the impact the adoption of SFAS 167 will have on its consolidated financial statements.

        In June 2009, the FASB issued SFAS No. 168, "The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles—a replacement of FASB Statement No. 162" ("SFAS 168"). SFAS 168 establishes the FASB Accounting Standards Codification ("ASC") as the source of authoritative accounting principles recognized by the FASB. Following this statement, the FASB will issue new standards in the form of Accounting Standards Updates ("ASUs"). SFAS 168 is effective for financial statements issued for interim and annual periods ending after September 15, 2009 and therefore is effective for HP in the fourth quarter of fiscal 2009. The issuance of SFAS 168 will not change GAAP and therefore the adoption of SFAS 168 will only affect the specific references to GAAP literature in the notes to HP's consolidated financial statements.

        In August 2009, the FASB issued Accounting Standards Update No. 2009-05, "Measuring Liabilities at Fair Value" ("ASU 2009-05"). This update provides amendments to ASC Topic 820, "Fair Value Measurements and Disclosure" for the fair value measurement of liabilities. HP will adopt ASU 2009-05 for all financial liabilities in the fourth quarter of fiscal 2009. HP will adopt ASU 2009-05 for

9



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 1: Basis of Presentation and Significant Accounting Policies (Continued)


all non-financial liabilities in the first quarter of fiscal 2010 when HP fully adopts SFAS 157. Although HP will continue to evaluate the application of SFAS 157 and this update for its non-financial liabilities, HP does not expect the adoption of ASU 2009-05 will have a material effect on its consolidated financial statements.

        During the first nine months of fiscal 2009, HP adopted the following accounting standards, none of which had a material effect on its consolidated financial statements during the period or at the end of the period:

        See Note 8 for additional information pertaining to SFAS 157, FSP SFAS 157-1, FSP SFAS 157-2, FSP SFAS 157-3, FSP SFAS 157-4 and SFAS 159.

        See Note 9 for additional information pertaining to SFAS 161.

10



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 2: Stock-Based Compensation

        HP's stock-based compensation plans include incentive compensation plans and an employee stock purchase plan. Incentive compensation plans include principal option plans as well as various stock option plans assumed through acquisitions. Principal option plans include performance-based restricted units ("PRU"), stock options and restricted stock awards. HP accounts for its stock-based compensation plans under SFAS No. 123(R), "Share-Based Payment."

        Total stock-based compensation expense for the three and nine months ended July 31, 2009 and 2008 was as follows:

 
  Three months ended
July 31
  Nine months ended
July 31
 
 
  2009   2008   2009   2008  
 
  In millions
  In millions
 

Cost of sales

  $ 41   $ 34   $ 141   $ 106  

Research and development

    12     16     47     55  

Selling, general and administrative

    94     90     288     288  

Acquisition-related charges

    3         25      
                   

Stock-based compensation expense before income taxes

    150     140     501     449  

Income tax benefit

    (51 )   (38 )   (158 )   (130 )
                   

Total stock-based compensation expense after income taxes

  $ 99   $ 102   $ 343   $ 319  
                   

        In fiscal 2008, HP implemented a program that provides for the issuance of PRUs representing hypothetical shares of HP common stock that may be issued under the Hewlett-Packard Company 2004 Stock Incentive Plan.

        Under the PRU program, a target number of units are awarded at the beginning of each three-year performance period. The number of shares released at the end of the performance period will range from zero to two times the target number depending on performance during the period. The performance metrics of the PRU program are (a) annual targets based on cash flow from operations as a percentage of revenue, and (b) an overall "modifier" based on Total Shareholder Return ("TSR") relative to the S&P 500 over the three-year performance period. TSR is calculated using the quarterly average performance of the S&P 500 during the three-year performance period.

        As the cash flow goals are considered performance conditions, the expense for these awards, net of estimated forfeitures, will be recorded over the three-year performance period based on the number of shares that are expected to be earned based on the achievement of the cash flow goals during the performance period.

11



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 2: Stock-Based Compensation (Continued)

        HP estimates the fair value of a target PRU share using the Monte Carlo simulation model, as the TSR modifier contains a market condition. The following weighted-average assumptions were used to determine the weighted-average fair value of the PRU awards:

 
  Three months ended
July 31
  Nine months ended
July 31
 
 
  2009   2008   2009   2008  

Weighted-average fair value of grants per share

  $ 35.47 (1)     $ 40.56 (2) $ 40.21  

Expected volatility(3)

    38 %       35 %   26 %

Risk-free interest rate

    1.15 %       1.34 %   3.13 %

Dividend yield

    0.94 %       0.88 %   0.70 %

Expected life in months

    30         30     33  

(1)
Reflects the weighted-average fair value for the first year of the three-year performance period applicable to PRUs granted in the three months ended July 31, 2009. The estimated fair value of a target share for the second and third years for PRUs granted in the three months ended July 31, 2009 will be determined when the annual cash flow goals are approved, and the expense will be amortized over the remainder of the applicable three-year performance period.

(2)
Reflects the weighted-average fair value for the second year of the three-year performance period applicable to PRUs granted in fiscal 2008 and for the first year of the three-year performance period applicable to PRUs granted in fiscal 2009. The estimated fair value of a target share for the third year for PRUs granted in fiscal 2008 and for the second and third years for PRUs granted in fiscal 2009 will be determined when the annual cash flow goals are approved, and the expense will be amortized over the remainder of the applicable three-year performance period.

(3)
HP uses historic volatility for PRU awards as implied volatility cannot be used when simulating multivariate prices for companies in the S&P 500.

        Outstanding PRUs as of July 31, 2009 and October 31, 2008 and changes during the nine months ended July 31, 2009 and twelve months ended October 31, 2008 were as follows:

 
  Nine months
ended
July 31, 2009
(in thousands)
  Twelve months
ended
October 31, 2008
(in thousands)
 

Beginning units outstanding

    10,965      

Granted

    13,949     8,783  

Change in units due to performance and market conditions

    979     2,492  

Forfeited

    (1,021 )   (310 )
           

Ending units outstanding

    24,872     10,965  
           

Vested

         
           

PRUs assigned a fair value

    13,338     5,292  
           

12



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 2: Stock-Based Compensation (Continued)

        At July 31, 2009, there was $248 million of unrecognized pre-tax stock-based compensation expense related to PRUs with an assigned fair value, which HP expects to recognize over the remaining weighted-average vesting period of 1.7 years.

        HP estimated the weighted-average fair value of stock options using the Black-Scholes option pricing model with the following weighted-average assumptions:

 
  Three months ended
July 31
  Nine months ended
July 31
 
 
  2009   2008   2009   2008  

Weighted-average fair value of grants per share

  $ 11.57   $ 14.20   $ 12.89   $ 15.34  

Implied volatility

    36 %   31 %   45 %   33 %

Risk-free interest rate

    2.43 %   3.30 %   2.01 %   3.16 %

Dividend yield

    0.91 %   0.71 %   0.95 %   0.68 %

Expected life in months

    61     61     61     60  

        Option activity as of July 31, 2009 and changes during the nine months ended July 31, 2009 were as follows:

 
  Shares
(in thousands)
  Weighted-
Average
Exercise
Price Per Share
  Weighted-
Average
Remaining
Contractual
Term
(in years)
  Aggregate
Intrinsic
Value
(in millions)
 

Outstanding at October 31, 2008

    307,728   $ 34              

Granted and assumed through acquisitions

    1,933   $ 27              

Exercised

    (27,103 ) $ 25              

Forfeited/cancelled/expired

    (18,803 ) $ 57              
                         

Outstanding at July 31, 2009

    263,755   $ 33     2.7   $ 3,231  
                         

Vested and expected to vest at July 31, 2009

    261,931   $ 33     2.7   $ 3,220  
                         

Exercisable at July 31, 2009

    237,135   $ 32     2.4   $ 3,073  
                         

        The aggregate intrinsic value in the table above represents the total pre-tax intrinsic value that option holders would have received had all option holders exercised their options on July 31, 2009. The aggregate intrinsic value is the difference between HP's closing stock price on the last trading day of the third quarter of fiscal 2009 and the exercise price, multiplied by the number of in-the-money options. Total intrinsic value of options exercised for the three and nine months ended July 31, 2009 was $188 million and $326 million, respectively.

        At July 31, 2009, there was $244 million of unrecognized pre-tax stock-based compensation expense related to stock options, which HP expects to recognize over the remaining weighted-average vesting period of 1.3 years.

13



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 2: Stock-Based Compensation (Continued)

        Non-vested restricted stock awards as of July 31, 2009 and changes during the nine months ended July 31, 2009 were as follows:

 
  Shares
(in thousands)
  Weighted-
Average Grant
Date Fair Value
Per Share
 

Non-vested at October 31, 2008

    12,930   $ 44  

Granted

    743   $ 34  

Vested

    (5,066 ) $ 44  

Forfeited

    (941 ) $ 42  
             

Non-vested at July 31, 2009

    7,666   $ 44  
             

        At July 31, 2009, there was $155 million of unrecognized pre-tax stock-based compensation expense related to non-vested restricted stock awards, which HP expects to recognize over the remaining weighted-average vesting period of 0.9 years.

        HP sponsors the Hewlett-Packard Company 2000 Employee Stock Purchase Plan, also known as the Share Ownership Plan (the "ESPP"), pursuant to which eligible employees may contribute up to 10% of base compensation, subject to certain income limits, to purchase shares of HP's common stock. Employees purchase stock pursuant to the ESPP semi-annually at a price equal to 85% of the fair market value on the purchase date. HP recognized expense based on a 15% discount from fair market value for purchases made under the ESPP on or before April 30, 2009. Effective May 1, 2009, HP modified the ESPP to eliminate the 15% discount applicable to purchases made under the ESPP.

Note 3: Net Earnings Per Share

        HP calculates basic earnings per share using net earnings and the weighted-average number of shares outstanding during the reporting period. Diluted EPS includes any dilutive effect of outstanding stock options, PRUs, restricted stock units, restricted stock and convertible debt.

14



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 3: Net Earnings Per Share (Continued)

        The reconciliation of the numerators and denominators of the basic and diluted EPS calculations was as follows:

 
  Three months ended
July 31
  Nine months ended
July 31
 
 
  2009   2008   2009   2008  
 
  In millions, except per share amounts
 

Numerator:

                         
 

Net earnings

  $ 1,642   $ 2,027   $ 5,212   $ 6,217  
 

Adjustment for interest expense on zero-coupon subordinated convertible notes, net of taxes

                3  
                   
 

Net earnings, adjusted

  $ 1,642   $ 2,027   $ 5,212   $ 6,220  
                   

Denominator:

                         
 

Weighted-average shares used to compute basic EPS

    2,382     2,459     2,395     2,497  
 

Effect of dilutive securities:

                         
   

Dilution from employee stock plans

    54     74     47     76  
   

Zero-coupon subordinated convertible notes

                4  
                   
 

Dilutive potential common shares

    54     74     47     80  
                   
 

Weighted-average shares used to compute diluted EPS

    2,436     2,533     2,442     2,577  
                   

Net earnings per share:

                         
 

Basic

  $ 0.69   $ 0.82   $ 2.18   $ 2.49  
 

Diluted

  $ 0.67   $ 0.80   $ 2.13   $ 2.41  

        HP excludes options with exercise prices that are greater than the average market price from the calculation of diluted EPS because their effect would be anti-dilutive. For the three and nine months ended July 31, 2009, HP excluded from the calculation of diluted EPS options to purchase 96 million shares and 100 million shares, respectively, as compared to 57 million shares and 55 million shares, respectively, in the prior-year comparable periods. Also, in accordance with SFAS 123R, HP excluded from the calculation of diluted EPS options to purchase an additional 2 million shares in the third quarter and the first nine months of fiscal 2009 compared to an additional 28 million shares and 29 million shares, respectively, in the prior-year comparable periods whose combined exercise price, unamortized fair value and excess tax benefits were greater in each of those periods than the average market price for HP's common stock because their effect would be anti-dilutive.

        As disclosed in Note 2, during the nine months ended July 31, 2009 and July 31, 2008, HP granted PRU awards representing at target approximately 14 million shares and 9 million shares, respectively. HP includes the shares underlying PRU awards in the calculation of diluted EPS when they become contingently issuable per SFAS No. 128, "Earnings per Share," and excludes such shares when they are not contingently issuable. Accordingly, for the three and nine months ended July 31, 2009, HP has included 4 million shares and 3 million shares, respectively, underlying the PRU awards granted in fiscal 2008 when calculating diluted EPS as those shares became contingently issuable upon the satisfaction of the cash flow from operations condition with respect to the first year of the performance period applicable to those awards. HP has excluded all other shares underlying the fiscal 2008 awards

15



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 3: Net Earnings Per Share (Continued)


and all shares underlying the fiscal 2009 awards when calculating diluted EPS as those shares are not contingently issuable.

        In October and November 1997, HP issued U.S. dollar zero-coupon subordinated convertible notes due 2017 (the "LYONs"), the outstanding principal amount of which was redeemed in March 2008. The LYONs were convertible at the option of the holders at any time prior to maturity, unless previously redeemed or otherwise purchased. For purposes of calculating diluted earnings per share for the nine months ended July 31, 2008, the interest expense (net of tax) associated with the LYONs was added back to net earnings, and the shares issuable upon conversion of the LYONs were included in the weighted-average shares used to compute diluted earnings per share for periods that the LYONs were outstanding.

Note 4: Balance Sheet Details

        Balance sheet details were as follows:

 
  July 31,
2009
  October 31,
2008
 
 
  In millions
 

Accounts receivable

  $ 15,376   $ 17,481  

Allowance for doubtful accounts

    (641 )   (553 )
           

  $ 14,735   $ 16,928  
           

Financing receivables

  $ 2,580   $ 2,355  

Allowance for doubtful accounts

    (48 )   (41 )
           

  $ 2,532   $ 2,314  
           

        HP has revolving trade receivables-based facilities permitting it to sell certain trade receivables to third parties on a non-recourse basis. The aggregate maximum capacity under these programs was $586 million as of July 31, 2009. HP sold $1,321 million of trade receivables during the first nine months of fiscal 2009. As of July 31, 2009, HP had $342 million available under these programs.

 
  July 31,
2009
  October 31,
2008
 
 
  In millions
 

Finished goods

  $ 3,809   $ 5,219  

Purchased parts and fabricated assemblies

    2,041     2,660  
           

  $ 5,850   $ 7,879  
           

16



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 4: Balance Sheet Details (Continued)

 
  July 31,
2009
  October 31,
2008
 
 
  In millions
 

Land

  $ 514   $ 526  

Buildings and leasehold improvements

    7,383     7,238  

Machinery and equipment

    12,232     11,121  
           

    20,129     18,885  
           

Accumulated Depreciation

    (8,935 )   (8,047 )
           

  $ 11,194   $ 10,838  
           

Note 5: Acquisitions

        In the first nine months of fiscal 2009, HP completed its acquisition of Lefthand Networks, Inc., a leading provider of storage virtualization and solutions for $347 million in cash including direct transaction costs and the assumption of certain liabilities in connection with the transaction. HP recorded $273 million to goodwill, $95 million to purchased intangibles and $6 million to in-process research and development ("IPR&D") charges related to this acquisition. Lefthand Networks is being integrated into HP's Enterprise Storage and Servers segment within the Technology Solutions Group. HP does not expect goodwill recorded with respect to this acquisition to be deductible for tax purposes. HP has not presented pro forma results of operations because this acquisition is not material to HP's consolidated financial statements.

        In August 2009, HP completed its acquisition of IBRIX, Inc. a leading provider of enterprise-class file serving software. IBRIX will be integrated into the Enterprise Storage and Servers segment. This acquisition is not material to HP's consolidated financial statements.

        As previously disclosed in its Consolidated Financial Statements for the fiscal year ended October 31, 2008, HP completed its acquisition of EDS on August 26, 2008. The purchase price for EDS was $13.0 billion, comprised of $12.7 billion cash paid for outstanding common stock, $328 million for the estimated fair value of stock options and restricted stock units assumed, and $36 million for direct transaction costs. Of the total purchase price, a preliminary estimate of $10.5 billion has been allocated to goodwill, $4.5 billion has been allocated to amortizable intangible assets acquired and $2.0 billion has been allocated to net tangible liabilities assumed in connection with the acquisition. HP also expensed $30 million for IPR&D charges.

        The purchase price allocation as of the date of the acquisition reflects various preliminary estimates and analyses, including preliminary work performed by third-party valuation specialists, and is subject to change during the purchase price allocation period (generally one year from the acquisition date) as valuations are finalized.

17



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 5: Acquisitions (Continued)

        HP has evaluated and continues to evaluate certain pre-acquisition contingencies related to EDS that existed as of the acquisition date. Additional information, which existed as of the acquisition date but was at that time unknown to HP, may become known to HP during the remainder of the purchase price allocation period, and may result in goodwill adjustments. If these pre-acquisition contingencies become probable in nature and estimable after the end of the purchase price allocation period, amounts would be recorded for such matters in HP's results of operations.

        The following table presents the unaudited results of HP (including EDS) for the three and nine months ended July 31, 2009 and the unaudited pro forma results for the three and nine months ended July 31, 2008. The unaudited pro forma financial information for the three and nine months ended July 31, 2008 combines the results of operations of HP and EDS as though the companies had been combined as of the beginning of fiscal 2008. The pro forma financial information is presented for informational purposes only and is not indicative of the results of operations that would have been achieved if the acquisition and related borrowings had taken place at the beginning of fiscal 2008. The unaudited pro forma results presented include amortization charges for acquired intangible assets, eliminations of intercompany transactions, restructuring charges, IPR&D charges, adjustments for incremental stock-based compensation expense related to the unearned portion of EDS stock options and restricted stock units assumed, adjustments for depreciation expense for property, plant and equipment, adjustments to interest expense and related tax effects.

 
  Three months ended
July 31
  Nine months ended
July 31
 
In millions, except per share data
  2009   2008   2009   2008  
 
  Unaudited
  Unaudited
 

Net revenue

  $ 27,451   $ 33,681   $ 83,602   $ 101,042  

Net earnings

  $ 1,642   $ 2,090   $ 5,212   $ 5,529  

Basic net earnings per share

  $ 0.69   $ 0.85   $ 2.18   $ 2.21  

Diluted net earnings per share

  $ 0.67   $ 0.82   $ 2.13   $ 2.14  

18



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 6: Goodwill and Purchased Intangible Assets

        Goodwill allocated to HP's business segments as of July 31, 2009 and changes in the carrying amount of goodwill for the nine months ended July 31, 2009 are as follows:

 
  Services   Enterprise
Storage
and
Servers
  HP
Software
  Personal
Systems
Group
  Imaging
and
Printing
Group
  HP
Financial
Services
  Corporate
Investments
  Total  
 
  In millions
 

Balance at October 31, 2008

  $ 16,284   $ 4,745   $ 6,162   $ 2,493   $ 2,463   $ 144   $ 44   $ 32,335  

Goodwill acquired during the period

        273                         273  

Goodwill adjustments

    680     (2 )   (8 )       (1 )           669  
                                   

Balance at July 31, 2009

  $ 16,964   $ 5,016   $ 6,154   $ 2,493   $ 2,462   $ 144   $ 44   $ 33,277  
                                   

        During the nine months ended July 31, 2009, HP recorded adjustments of approximately $500 million to the estimated fair values of EDS's intangible assets and net liabilities acquired resulting in an increase to EDS's goodwill, which is allocated to the Services segment. These changes in the estimated fair values relate primarily to restructuring liabilities, fixed assets, intangible assets and net deferred tax liabilities. In addition, goodwill increased approximately $180 million as a result of currency translation related to certain of EDS's foreign subsidiaries whose functional currency is not the U.S. dollar.

        HP's purchased intangible assets associated with completed acquisitions are composed of:

 
  July 31, 2009   October 31, 2008  
 
  Gross   Accumulated
Amortization
  Net   Gross   Accumulated
Amortization
  Net  
 
  In millions
 

Customer contracts, customer lists and distribution agreements

  $ 6,685   $ (2,806 ) $ 3,879   $ 6,530   $ (2,176 ) $ 4,354  

Developed and core technology and patents

    4,151     (2,627 )   1,524     4,189     (2,147 )   2,042  

Product trademarks

    247     (170 )   77     253     (109 )   144  
                           

Total amortizable purchased intangible assets

    11,083     (5,603 )   5,480     10,972     (4,432 )   6,540  

Compaq trade name

    1,422         1,422     1,422         1,422  
                           

Total purchased intangible assets

  $ 12,505   $ (5,603 ) $ 6,902   $ 12,394   $ (4,432 ) $ 7,962  
                           

        For the nine months ended July 31, 2009, HP recorded an increase of $51 million to purchased intangibles as a result of currency translation related to certain of EDS's foreign subsidiaries whose financial currency is not the U.S. dollar. HP also recorded a reduction of $35 million to the estimated fair value of EDS's intangible assets acquired.

19



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 6: Goodwill and Purchased Intangible Assets (Continued)

        Estimated future amortization expense related to finite lived purchased intangible assets at July 31, 2009 is as follows:

Fiscal year:
  In millions  

2009 (remaining 3 months)

  $ 354  

2010

    1,320  

2011

    1,035  

2012

    844  

2013

    707  

Thereafter

    1,220  
       

Total

  $ 5,480  
       

Note 7: Restructuring Charges

        In May 2009, HP's management approved and initiated a restructuring plan to structurally change and improve the effectiveness of IPG, PSG and ESS. In the third quarter of fiscal 2009, HP recorded a net charge of $295 million in severance-related costs associated with the planned elimination of approximately 5,000 positions. As of July 31, 2009, approximately 1,200 positions have been eliminated. HP expects the majority of the restructuring costs to be paid out by the fourth quarter of fiscal 2010. In future quarters, HP expects to record an additional charge of approximately $8 million related to severance costs associated with this plan.

        In connection with the acquisition of EDS on August 26, 2008, HP's management approved and initiated a restructuring plan to streamline the combined company's services business and to better align the structure and efficiency of that business with HP's operating model. The restructuring plan is expected to be implemented over four years from the acquisition date and includes changes to the combined company's workforce as well as changes to corporate overhead functions such as real estate and IT.

        In the fourth quarter of fiscal 2008, HP recorded a liability of approximately $1.8 billion related to this restructuring plan. Approximately $1.5 billion of the liability was associated with pre-acquisition EDS and was recorded to goodwill, and the remaining approximately $0.3 billion was associated with HP and was recorded as a restructuring charge. The liability consisted mainly of severance costs to eliminate approximately 25,000 positions, costs to vacate duplicative facilities and costs associated with early termination of certain contractual obligations. HP recorded net charges for severance and facilities costs of $67 million and $310 million, for the three and nine months ended July 31, 2009, respectively, along with year-to-date adjustments to goodwill of $276 million. As of July 31, 2009, over 16,000 positions have been eliminated.

20



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 7: Restructuring Charges (Continued)

        HP expects the majority of the restructuring costs to be paid out by the second quarter of fiscal 2010. In future quarters, HP expects to record an additional charge of approximately $497 million related to the cost to vacate duplicative facilities and severance costs.

        All restructuring costs associated with pre-acquisition EDS are reflected in the purchase price of EDS in accordance with EITF 95-3, "Recognition of Liabilities in Connection with a Purchase Business Combination." These costs are subject to change based on the actual costs incurred. Changes to these estimates could increase or decrease the amount of the purchase price allocated to goodwill.

        Restructuring plans initiated prior to 2008 are substantially complete and HP expects to record only minor revisions to these plans as necessary.

        The adjustments to the accrued restructuring expenses related to all of HP's restructuring plans described above for the three and nine months ended July 31, 2009 were as follows:

 
   
  Three
months
ended
July 31,
2009
charges
(reversals)
  Nine
months
ended
July 31,
2009
charges
(reversals)
   
   
   
   
  As of July 31, 2009  
 
   
   
   
  Non-cash
settlements
and
other
adjustments
   
 
 
  Balance,
October 31,
2008
  Goodwill
adjustments
  Cash
payments
  Balance,
July 31,
2009
  Total costs
and
adjustments
to date
  Total
expected
costs and
adjustments
 
 
  In millions
   
 

Fiscal 2009 Plan

  $   $ 295   $ 295   $   $ (19 ) $ 3   $ 279   $ 295   $ 303  

Fiscal 2008 HP/EDS Plan:

                                                       
 

Severance

  $ 1,444   $ 36   $ 267   $ 96   $ (770 ) $ 70   $ 1,107   $ 1,898   $ 1,936  
 

Infrastructure

    248     31     43     180     (34 )   (17 )   420     476     935  
                                       
 

Total severance and other restructuring activities

  $ 1,692   $ 67   $ 310   $ 276   $ (804 ) $ 53   $ 1,527   $ 2,374   $ 2,871  

Prior fiscal year plans

    77         (3 )   (2 )   (21 )   4     55     6,343     6,343  
                                       

Total restructuring plans

  $ 1,769   $ 362   $ 602   $ 274   $ (844 ) $ 60   $ 1,861   $ 9,012   $ 9,517  
                                       

        At July 31, 2009 and October 31, 2008, HP included the long-term portion of the restructuring liability of $440 million and $670 million, respectively, in Other liabilities, and the short-term portion in Accrued restructuring in the accompanying Consolidated Condensed Balance Sheets.

        As part of HP's ongoing business operations, HP incurred workforce rebalancing charges for severance and related costs within certain business segments during the first nine months of fiscal 2009. Workforce rebalancing activities are considered part of normal operations as HP continues to optimize its cost structure. Workforce rebalancing costs are included in HP's business segment results, and HP expects to incur additional workforce rebalancing costs in the future.

21



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 8: Fair Value

        Effective November 1, 2008, HP adopted the applicable portions of SFAS 157 as referenced in Note 1. Pursuant to the provisions of SFAS 157-2, HP will not apply the provisions of SFAS 157 until the first quarter of fiscal 2010 for the following major categories of nonfinancial assets and liabilities from the Consolidated Condensed Balance Sheet: Property, plant and equipment, Goodwill, Purchased intangible assets and the Asset retirement obligations within Other accrued liabilities and Other liabilities. The adoption did not have a material impact on HP's financial statements and did not result in any changes to the opening balance of retained earnings as of November 1, 2008.

        SFAS 157 establishes a new framework for measuring fair value and expands related disclosures. The SFAS 157 framework requires fair value to be determined based on the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants.

        The valuation techniques required by SFAS 157 are based upon observable and unobservable inputs. Observable or market inputs reflect market data obtained from independent sources, while unobservable inputs reflect HP's assumptions about market participant assumptions based on best information available. Observable inputs are the preferred source of values. In accordance with SFAS 157, these two types of inputs create the following fair value hierarchy:

        Level 1—Quoted prices (unadjusted) for identical instruments in active markets.

        Level 2—Quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

        Level 3—Prices or valuations that require management inputs that are both significant to the fair value measurement and unobservable.

        The following section describes the valuation methodologies HP uses to measure its financial assets and liabilities at fair value.

        Cash Equivalents: HP holds money market funds investing mainly in treasury bills, which are classified under level 1. HP also invests in time deposits and commercial paper, which are classified under level 2.

        Investments: HP holds time deposits, corporate and foreign government notes and bonds, commercial paper, and common stock and equivalents. In general, and where applicable, HP uses quoted prices in active markets for identical assets or liabilities to determine fair value. If quoted prices in active markets for identical assets or liabilities are not available to determine fair value, HP uses quoted prices for similar assets and liabilities or inputs that are observable either directly or indirectly. If quoted prices for identical or similar assets are not available, HP uses internally developed valuation models, whose inputs include bid prices, and third party valuations utilizing underlying assets assumptions.

        Derivative Instruments: As discussed in Note 9, HP mainly holds non-speculative forwards, swaps and options to hedge certain foreign currency and interest rate exposures. When active market quotes are not available, HP uses industry standard valuation models. Where applicable, these models project

22



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 8: Fair Value (Continued)


future cash flows and discount the future amounts to a present value using market-based observable inputs including interest rate curves, credit risk, foreign exchange rates, and forward and spot prices for currencies. In certain cases, market-based observable inputs are not available and, in those cases, HP uses management judgment to develop assumptions which are used to determine fair value.

        The following table presents HP's assets and liabilities as of July 31, 2009 that are measured at fair value on a recurring basis:

 
  Fair Value Measured Using    
 
 
  Total
Balance
 
 
  Level 1   Level 2   Level 3  
 
  In millions
 

Assets

                         

Time deposits

  $   $ 8,989   $   $ 8,989  

Commercial paper

        1,000     49     1,049  

Money market funds

    715             715  

Other debt securities

    14     343         357  

Marketable equity securities

    7     4         11  

Derivatives

        660     3     663  
                   
 

Total

  $ 736   $ 10,996   $ 52   $ 11,784  
                   

Liabilities

                         

Derivatives

  $   $ 705   $ 5   $ 710  
                   
 

Total

  $   $ 705   $ 5   $ 710  
                   

23



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 8: Fair Value (Continued)

        The following tables present the changes in level 3 instruments for the three and nine months ended July 31, 2009 that are measured on a recurring basis. The majority of the level 3 balances consist of investment securities classified as available-for-sale with changes in fair value recorded in other comprehensive income ("OCI").

 
  Fair Value Measured Using
Significant Unobservable Inputs
(Level 3)
 
Three Months Ended July 31, 2009
  Commercial Paper   Derivative
Instruments
  Total  
 
  In millions
 

Beginning balance at May 1, 2009

  $ 49   $   $ 49  
 

Total losses (realized/unrealized):

                   
   

Included in earnings(1)

             
   

Included in other comprehensive income

        (2 )   (2 )
 

Purchases, issuances, and settlements

             
               

Ending balance at July 31, 2009

  $ 49   $ (2 ) $ 47  
               

The amount of total losses for the period included in earnings attributable to the change in unrealized losses relating to assets still held as of July 31, 2009

  $   $   $  
               

Nine Months Ended July 31, 2009

       

Beginning balance at November 1, 2008

 
$

64
 
$

(1

)

$

63
 
 

Total losses (realized/unrealized):

                   
   

Included in earnings(1)

    (3 )       (3 )
   

Included in other comprehensive income

    (11 )   (2 )   (13 )
 

Purchases, issuances, and settlements

    (1 )   1      
               

Ending balance at July 31, 2009

  $ 49   $ (2 ) $ 47  
               

The amount of total losses for the period included in earnings attributable to the change in unrealized losses relating to assets still held as of July 31, 2009

  $ (2 ) $   $ (2 )
               

(1)
Included in Interest and other, net in the accompanying Consolidated Condensed Statements of Earnings.

        HP measures certain assets including cost and equity method investments at fair value on a nonrecurring basis. These assets are recognized at fair value when they are deemed to be other-than-temporarily impaired. As of July 31, 2009, such assets with a total fair value of $2 million were included in the level 2 hierarchy. In the three and nine months ended July 31, 2009, HP recorded an impairment charge of $3 million and $37 million, respectively. Of the $37 million, $33 million was charged to goodwill.

24



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 8: Fair Value (Continued)

        HP reviews the carrying values of the investments when events and circumstances warrant and considers all available evidence in evaluating when declines in fair value are other-than-temporary. The fair values of the investments are determined based on valuation techniques using the best information available, which may include quoted market prices, market comparables, and discounted cash flow projections. An impairment charge is recorded when the cost of the investment exceeds its fair value, is determined to be other-than-temporary and is related to credit loss for debt securities.

        Effective November 1, 2008, HP also adopted SFAS 159, which allows an entity to elect to measure certain financial instruments at fair value on a contract-by-contract basis. Subsequent to the election, any unrealized gains and losses from the fair value measurement of the financial instruments will be recognized in earnings. As of July 31, 2009, HP did not elect such option for any eligible financial instruments.

Note 9: Financial Instruments

        Investments in short-term and long-term available-for-sale debt and equity securities at fair value as of July 31, 2009 and October 31, 2008 were as follows:

 
  As of July 31, 2009   As of October 31, 2008  
 
  Cost   Gross
Unrealized
Gain
  Gross
Unrealized
Loss
  Estimated
Fair Value
  Cost   Gross
Unrealized
Gain
  Gross
Unrealized
Loss
  Estimated
Fair Value
 
 
  In millions
 

Available-for-Sale Securities

                                                 

Debt securities:

                                                 
 

Time deposits

  $ 66   $   $   $ 66   $ 103   $   $   $ 103  
 

Commercial paper

    79         (30 )   49     83         (20 )   63  
 

Other debt securities

    25             25     21     1         22  
                                   

Total debt securities

    170         (30 )   140     207     1     (20 )   188  

Equity securities in public companies

    3     3         6     3     2         5  
                                   

  $ 173   $ 3   $ (30 ) $ 146   $ 210   $ 3   $ (20 ) $ 193  
                                   

        Time deposits consist of certificate of deposits with maturity dates greater than three months. Other debt securities consist primarily of fixed-interest securities invested for early retirement purposes and also a fixed income fund. Equity securities in public companies are primarily common stock.

        As discussed in Note 8, HP estimated the fair values based on quoted market prices or pricing models using current market rates. These estimated fair values may not be representative of actual values that could have been realized as of the reporting period or that will be realized in the future.

        The gross unrealized loss as of July 31, 2009 was due primarily to declines in commercial paper that had been in a continuous loss position for less than twelve months. HP intends to hold the commercial paper and believes that it is unlikely that HP will be required to sell the commercial paper before recovery of the amortized cost. In the three months ended July 31, 2009, HP did not recognize

25



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 9: Financial Instruments (Continued)


any impairment charge associated with the commercial paper. In the nine months ended July 31, 2009, HP recognized an impairment charge of $2 million associated with its commercial paper.

        Contractual maturities of available-for-sale debt securities at July 31, 2009 were as follows:

 
  Available-for-Sale
Securities
 
 
  Cost   Estimated
Fair Value
 
 
  In millions
 

Due in less than one year

  $ 66   $ 66  

Due in 1-5 years

    25     25  

Due in more than five years

    79     49  
           

  $ 170   $ 140  
           

        There were no sales or maturities of available-for-sale and other securities for the three months ended July 31, 2009. Proceeds from sales or maturities of available-for-sale and other securities were $103 million for the nine months ended July 31, 2009. There were no realized gains or losses on available-for-sale and other securities for the three and nine months ended July 31, 2009. The specific identification method is used to account for gains and losses on available-for-sale securities.

        A summary of the carrying values and balance sheet classification of all short-term and long-term investments in debt and equity securities as of July 31, 2009 and October 31, 2008 was as follows:

 
  July 31,
2009
  October 31,
2008
 
 
  In millions
 

Available-for-sale debt securities

  $ 66   $ 93  
           
 

Short-term investments

    66     93  
           

Available-for-sale debt securities

    74     95  

Available-for-sale equity securities

    6     5  

Equity securities in privately-held companies

    148     145  

Marketable trading securities and other investments

    14     280  
           
 

Included in long-term financing receivables and other assets

    242     525  
           

Total investments

  $ 308   $ 618  
           

        Equity securities in privately-held companies include cost basis and equity method investments. Marketable trading securities and other investments consist primarily of marketable trading securities held to generate returns that HP expects to offset changes in certain liabilities related to deferred compensation arrangements. HP includes gains or losses from changes in fair value of these securities, offset by losses or gains on the related liabilities, in Interest and other, net, in HP's Consolidated Condensed Statements of Earnings. The net losses associated with these securities were $5 million and $11 million, respectively, for the three and nine months ended July 31, 2009.

26



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 9: Financial Instruments (Continued)

        On February 1, 2009, HP adopted SFAS 161 as referenced in Note 1. The adoption of SFAS 161 requires additional disclosures about HP's objectives and strategies for using derivative instruments, the accounting for the derivative instruments and related hedged items under SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"), and the effect of derivative instruments and related hedged items on the financial statements. The adoption had no financial impact on the consolidated condensed financial statements.

        HP is a global company that is exposed to foreign currency exchange rate fluctuations and interest rate changes in the normal course of its business. As part of its risk management strategy, HP uses derivative instruments, primarily forward contracts, option contracts, interest rate swaps, and total return swaps, to hedge certain foreign currency, interest rate and, to a lesser extent, equity exposures. HP's objective is to offset gains and losses resulting from these exposures with losses and gains on the derivative contracts used to hedge them, thereby reducing volatility of earnings or protecting fair values of assets and liabilities. HP does not have any leveraged derivatives. HP does not use derivative contracts for speculative purposes. HP applies hedge accounting based upon the criteria established by SFAS 133, whereby HP designates its derivatives as fair value hedges, cash flow hedges or hedges of the foreign currency exposure of a net investment in a foreign operation ("net investment hedges"). Additionally, for derivatives not designated as hedging instruments under SFAS 133, HP categorizes those economic hedges as other derivatives. HP recognizes all derivatives in the Consolidated Condensed Balance Sheets at fair value and reports them in Other current assets, Long-term financing receivables and other assets, Other accrued liabilities, or Other liabilities. HP classifies cash flows from the derivative programs as operating activities in the Consolidated Condensed Statement of Cash Flows.

        As a result of the use of derivative instruments, HP is exposed to the risk that counterparties to derivative contracts will fail to meet their contractual obligations. To mitigate the counterparty credit risk, HP has a policy of only entering into contracts with carefully selected major financial institutions based upon their credit ratings and other factors, and HP maintains dollar and term limits that correspond to each institution's credit rating. HP's established policies and procedures for mitigating credit risk on principal transactions and short-term cash include reviewing and establishing limits for credit exposure and continually assessing the creditworthiness of counterparties. Master agreements with counterparties include master netting arrangements as further mitigation of credit exposure to counterparties. These arrangements permit HP to net amounts due from HP to a counterparty with amounts due to HP from a counterparty, which reduces the maximum loss from credit risk in the event of counterparty default.

        Certain of HP's derivative instruments contain credit-risk-related contingent features, such as a provision whereby the counterparties to the derivative instruments could request collateralization on derivative instruments in net liability positions if HP's credit rating falls below investment grade. As of July 31, 2009, HP was not required to post any collateral and HP did not have any derivative instruments with credit-risk-related contingent features that were in a significant net liability position.

27



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 9: Financial Instruments (Continued)

        HP enters into fair value hedges to reduce the exposure of its debt portfolio to interest rate risk. HP issues long-term debt in U.S. dollars based on market conditions at the time of financing. HP uses interest rate swaps to modify the market risk exposures in connection with the debt to achieve primarily U.S. dollar LIBOR-based floating interest expense. The swap transactions generally involve principal and interest obligations for U.S. dollar-denominated amounts. Alternatively, HP may choose not to swap fixed for floating interest payments or may terminate a previously executed swap if it believes a larger proportion of fixed-rate debt would be beneficial. When investing in fixed-rate instruments, HP may enter into interest rate swaps that convert the fixed interest returns into variable interest returns and would classify these swaps as fair value hedges. For derivative instruments that are designated and qualify as fair value hedges, HP recognizes the gain or loss on the derivative instrument, as well as the offsetting loss or gain on the hedged item, in Interest and other, net in the Consolidated Condensed Statements of Earnings in the current period.

        HP uses a combination of forward contracts and options designated as cash flow hedges to protect against the foreign currency exchange rate risks inherent in its forecasted net revenue and, to a lesser extent, cost of sales, operating expense, and intercompany lease loan denominated in currencies other than the U.S. dollar. HP's foreign currency cash flow hedges mature generally within six months. However, certain leasing revenue-related forward contracts and intercompany lease loan forward contracts extend for the duration of the lease term, which can be up to five years. For derivative instruments that are designated and qualify as cash flow hedges, HP initially records the effective portion of the gain or loss on the derivative instrument in accumulated other comprehensive loss as a separate component of stockholders' equity and subsequently reclassifies these amounts into earnings in the period during which the hedged transaction is recognized in earnings. HP reports the effective portion of cash flow hedges in the same financial statement line item as the changes in value of the hedged item. During the nine months ended July 31, 2009, HP did not discontinue any cash flow hedge for which it was probable that a forecasted transaction would not occur.

        HP uses forward contracts designated as net investment hedges to hedge net investments in certain foreign subsidiaries whose functional currency is the local currency. For derivative instruments that are designated as net investment hedges, HP records the effective portion of the gain or loss on the derivative instrument together with changes in the hedged items in cumulative translation adjustment as a separate component of stockholders' equity.

        Other derivatives not designated as hedging instruments under SFAS 133 consist primarily of forward contracts HP uses to hedge foreign currency balance sheet exposures. HP also uses total return swaps and, to a lesser extent, interest rate swaps, based on the equity and fixed income indices, to hedge its executive deferred compensation plan liability. For derivative instruments not designated as hedging instruments under SFAS 133, HP recognizes changes in the fair values in earnings in the

28



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 9: Financial Instruments (Continued)

period of change. HP recognizes the gain or loss on foreign currency forward contracts used to hedge balance sheet exposures in Interest and other, net in the same period as the remeasurement gain and loss of the related foreign currency denominated assets and liabilities. HP recognizes the gain or loss on the total return swaps and interest rate swaps in Interest and other, net in the same period as the gain or loss from the change in market value of the executive deferred compensation plan liability.

        For interest rate swaps designated as fair value hedges, HP measures effectiveness by offsetting the change in fair value of the hedged debt with the change in fair value of the derivative. For foreign currency options and forward contracts designated as cash flow or net investment hedges, HP measures effectiveness by comparing the cumulative change in the hedge contract with the cumulative change in the hedged item, both of which are based on forward rates. HP recognizes any ineffective portion of the hedge, as well as amounts not included in the assessment of effectiveness, in the Consolidated Condensed Statements of Earnings. As of July 31, 2009, the portion of hedging instruments' gain or loss excluded from the assessment of effectiveness was not material for fair value, cash flow or net investment hedges. Hedge ineffectiveness for fair value, cash flow and net investment hedges was not material for the three and nine months ended July 31, 2009.

        As discussed in Note 8, HP estimates the fair values of derivatives based on quoted market prices or pricing models using current market rates and records all derivatives on the balance sheet at fair

29



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 9: Financial Instruments (Continued)

value. The gross notional and fair value of derivative financial instruments in the Consolidated Condensed Balance Sheet as of July 31, 2009 were as follows:

 
  As of July 31, 2009  
 
  Gross
Notional(1)
  Other
Current
Assets
  Long-term
Financing
Receivables and
Other Assets
  Other
Accrued
Liabilities
  Other
Liabilities
 
 
  In millions
 

Derivatives designated as hedging instruments under SFAS 133

                               

Fair value hedges:

                               
 

Interest rate contracts

  $ 6,575   $   $ 296   $   $ 33  

Cash flow hedges:

                               
 

Foreign exchange contracts

    14,397     119     18     354     23  

Net investment hedges:

                               
 

Foreign exchange contracts

    1,296     17     16     37     26  
                       

Total derivatives designated as hedging instruments under SFAS 133

  $ 22,268   $ 136   $ 330   $ 391   $ 82  
                       

Derivatives not designated as hedging instruments under SFAS 133

                               

Foreign exchange contracts

  $ 14,553   $ 96   $ 47   $ 159   $ 44  

Interest rate contracts(2)

    2,213         33         34  

Total return contracts

    223     21              
                       

Total derivatives not designated as hedging instruments under SFAS 133

  $ 16,989   $ 117   $ 80   $ 159   $ 78  
                       

Total derivatives

  $ 39,257   $ 253   $ 410   $ 550   $ 160  
                       

(1)
Represents the face amounts of contracts that were outstanding as of July 31, 2009.

(2)
Represents offsetting swaps acquired through previous business combination that were not designated as hedging instruments under SFAS 133.

30



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 9: Financial Instruments (Continued)

        The before-tax effect of a derivative instrument and related hedged item in a fair value hedging relationship for the three and nine months ended July 31, 2009 was as follows:

 
  Gain (Loss) Recognized in Income on Derivative and Related Hedged Item  
Derivative Instrument
  Location   Three
months
ended
July 31,
2009
  Nine
months
ended
July 31,
2009
  Hedged Item   Location   Three
months
ended
July 31,
2009
  Nine
months
ended
July 31,
2009
 
 
   
  In millions
   
   
  In millions
 

Interest rate contracts

  Interest and other, net   $ (94 ) $ 155   Fixed-rate Debt   Interest and other, net   $ 91   $ (161 )

        The before-tax effect of derivative instruments in cash flow and net investment hedging relationships for the three and nine months ended July 31, 2009 was as follows:

 
  Gain (Loss)
Recognized in
OCI on Derivative
(Effective Portion)
  Gain (Loss) Reclassified from
Accumulated OCI Into Income
(Effective Portion)
  Gain Recognized in
Income on Derivative(1)
(Ineffective portion
and Amount Excluded
from Effectiveness Testing)
 
 
  Three
months
ended
July 31,
2009
  Nine
months
ended
July 31,
2009
  Location   Three
months
ended
July 31,
2009
  Nine
months
ended
July 31,
2009
  Location   Three
months
ended
July 31,
2009
  Nine
months
ended
July 31,
2009
 
 
  In millions
   
  In millions
   
  In millions
 

Cash flow hedges:

                                             
 

Foreign exchange contracts

  $ (612 ) $ (743 )

Net revenue

  $ (162 ) $ 713  

Net revenue

  $   $  
 

Foreign exchange contracts

    38     72  

Cost of products

    43     124  

Cost of products

         
 

Foreign exchange contracts

    5     (4 )

Other operating expenses

    (1 )   (5 )

Other operating expenses

         
 

Foreign exchange contracts

    (5 )   (6 )

Interest and other, net

    (2 )   (4 )

Interest and other, net

         
 

Foreign exchange contracts

    14     19  

Net revenue

    2     7  

Interest and other, net

    2     4  
                                   
   

Total cash flow hedges

  $ (560 ) $ (662 )     $ (120 ) $ 835       $ 2   $ 4  
                                   

Net investment hedges:

                                             
 

Foreign exchange contracts

  $ (96 ) $ (127 )

Interest and other, net

  $   $  

Interest and other, net

  $   $  
                                   

(1)
Amount of gain recognized in income on derivative represents a $2 million gain and a $4 million gain related to the amount excluded from the assessment of hedge effectiveness in the three and nine months ended July 31, 2009, respectively.

31



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 9: Financial Instruments (Continued)

        HP expects to reclassify net accumulated other comprehensive gain of $154 million, net of taxes, to earnings in the next twelve months along with the earnings effects of the related forecasted transactions in association with cash flow hedges.

        The before-tax effect of derivative instruments not designated as hedging instruments on the Consolidated Condensed Statements of Earnings was as follows:

 
  Gain (Loss) Recognized in Income on Derivative  
 
  Location   Three
months
ended
July 31,
2009
  Nine
months
ended
July 31,
2009
 
 
   
  In millions
 

Foreign exchange contracts

  Interest and other, net   $ (452 ) $ (663 )

Total return contracts

  Interest and other, net     11     20  

Interest rate contracts

  Interest and other, net     8     16  
               

Total

      $ (433 ) $ (627 )
               

        For certain of HP's financial instruments, including cash and cash equivalents, short-term investments, accounts receivable, financing receivables, notes payable and short-term borrowings, accounts payable and other accrued liabilities, the carrying amounts approximate fair value due to their short maturities. The estimated fair value of HP's short- and long-term debt was approximately $17.3 billion at July 31, 2009, compared to a carrying value of $17.2 billion at that date. The estimated fair value of the debt is based primarily on quoted market prices, as well as borrowing rates currently available to HP for bank loans with similar terms and maturities.

Note 10: Financing Receivables and Operating Leases

        Financing receivables represent sales-type and direct-financing leases resulting from the marketing of HP's and third-party products. These receivables typically have terms from two to five years and are usually collateralized by a security interest in the underlying assets. Financing receivables also include

32



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 10: Financing Receivables and Operating Leases (Continued)


billed receivables from operating leases. The components of net financing receivables, which are included in financing receivables and long-term financing receivables and other assets, were as follows:

 
  July 31,
2009
  October 31,
2008
 
 
  In millions
 

Minimum lease payments receivable

  $ 6,033   $ 5,338  

Allowance for doubtful accounts

    (108 )   (90 )

Unguaranteed residual value

    245     254  

Unearned income

    (552 )   (466 )
           

Financing receivables, net

    5,618     5,036  

Less current portion

    (2,532 )   (2,314 )
           

Amounts due after one year, net

  $ 3,086   $ 2,722  
           

        Equipment leased to customers under operating leases was $3.0 billion at July 31, 2009 and $2.3 billion at October 31, 2008 and is included in Property, plant and equipment in the Consolidated Condensed Balance Sheets. Accumulated depreciation on these operating leases was $0.9 billion at July 31, 2009 and $0.5 billion at October 31, 2008.

Note 11: Guarantees

        In the ordinary course of business, HP may provide certain clients, principally governmental entities, with subsidiary performance guarantees and/or financial performance guarantees, which may be backed by standby letters of credit or surety bonds. In general, HP would be liable for the amounts of these guarantees in the event HP or HP's subsidiaries' nonperformance permits termination of the related contract by the client, the likelihood of which HP believes is remote. HP believes that the company is in compliance with the performance obligations under all material service contracts for which there is a performance guarantee.

        As a result of the acquisition of EDS, HP acquired certain service contracts supported by client financing or securitization arrangements. Under specific circumstances involving non-performance resulting in service contract termination or failure to comply with terms under the financing arrangement, HP would be required to acquire certain assets. HP considers the possibility of its failure to comply to be remote and the asset amounts involved to be immaterial.

        In the ordinary course of business, HP enters into contractual arrangements under which HP may agree to indemnify the third party to such arrangement from any losses incurred relating to the services they perform on behalf of HP or for losses arising from certain events as defined within the particular contract, which may include, for example, litigation or claims relating to past performance. Such indemnification obligations may not be subject to maximum loss clauses. Historically, payments made related to these indemnifications have been immaterial.

33



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 11: Guarantees (Continued)

        HP provides for the estimated cost of product warranties at the time it recognizes revenue. HP engages in extensive product quality programs and processes, including actively monitoring and evaluating the quality of its component suppliers; however, product warranty terms offered to customers, ongoing product failure rates, material usage and service delivery costs incurred in correcting a product failure, as well as specific product class failures outside of HP's baseline experience, affect the estimated warranty obligation. If actual product failure rates, repair rates or any other post sales support costs differ from these estimates, revisions to the estimated warranty liability would be required.

        The changes in HP's aggregate product warranty liabilities for the nine months ended July 31, 2009 were as follows:

 
  In millions  

Product warranty liability at October 31, 2008

  $ 2,614  

Accruals for warranties issued

    1,915  

Adjustments related to pre-existing warranties (including changes in estimates)

    (193 )

Settlements made (in cash or in kind)

    (2,003 )
       

Product warranty liability at July 31, 2009

  $ 2,333  
       

Note 12: Borrowings

        Notes payable and short-term borrowings, including the current portion of long-term debt, were as follows:

 
  July 31, 2009   October 31, 2008  
 
  Amount
Outstanding
  Weighted-
Average
Interest
Rate
  Amount
Outstanding
  Weighted-
Average
Interest
Rate
 
 
  In millions
 

Commercial paper

  $ 275     1.4 % $ 7,146     2.7 %

Current portion of long-term debt

    2,610     2.8 %   2,674     4.3 %

Notes payable to banks, lines of credit and other

    403     2.2 %   356     5.3 %
                       

  $ 3,288         $ 10,176        
                       

        Notes payable to banks, lines of credit and other includes deposits associated with HP's banking-related activities of approximately $311 million and $262 million at July 31, 2009 and October 31, 2008, respectively.

34



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 12: Borrowings (Continued)

        Long-term debt was as follows:

 
  July 31,
2009
  October 31,
2008
 
 
  In millions
 

U.S. Dollar Global Notes

             
 

2002 Shelf Registration Statement:

             
   

$500 issued at discount to par of 99.505% in June 2002 at 6.5%, due July 2012

  $ 499   $ 499  
 

2006 Shelf Registration Statement:

             
   

$600 issued at par in February 2007 at three-month USD LIBOR plus 0.11%, due March 2012

    600     600  
   

$900 issued at discount to par of 99.938% in February 2007 at 5.25%, due March 2012

    900     900  
   

$500 issued at discount to par of 99.694% in February 2007 at 5.4%, due March 2017

    499     499  
   

$1,000 issued at par in June 2007 at three-month USD LIBOR plus 0.01%, due June 2009

        1,000  
   

$1,000 issued at par in June 2007 at three-month USD LIBOR plus 0.06%, due June 2010

    1,000     1,000  
   

$750 issued at par in March 2008 at three-month USD LIBOR plus 0.40%, due September 2009

    750     750  
   

$1,500 issued at discount to par of 99.921% in March 2008 at 4.5%, due March 2013

    1,499     1,499  
   

$750 issued at discount to par of 99.932% in March 2008 at 5.5%, due March 2018

    750     750  
   

$2,000 issued at discount to par of 99.561% in December 2008 at 6.125%, due March 2014

    1,992      
   

$275 issued at par in February 2009 at three-month USD LIBOR plus 1.75%, due February 2011

    275      
   

$1,000 issued at discount to par of 99.956% in February 2009 at 4.25%, due February 2012

    1,000      
   

$1,500 issued at discount to par of 99.993% in February 2009 at 4.75%, due June 2014

    1,500      
 

2009 Shelf Registration Statement:

             
   

$750 issued at par in May 2009 at three-month USD LIBOR plus 1.05%, due May 2011

    750      
   

$1,000 issued at discount to par of 99.967% in May 2009 at 2.25%, due May 2011

    1,000      
   

$250 issued at discount to par of 99.984% in May 2009 at 2.95%, due August 2012

    250      
           

    13,264     7,497  
           

35



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 12: Borrowings (Continued)

 
  July 31,
2009
  October 31,
2008
 
 
  In millions
 

EDS Senior Notes

             
 

$700 issued October 1999 at 7.125%, due October 2009

    702     712  
 

$1,100 issued June 2003 at 6.0%, due August 2013

    1,143     1,150  
 

$300 issued October 1999 at 7.45%, due October 2029

    316     316  
           

    2,161     2,178  
           

Other, including capital lease obligations, at 3.75%-9.14%, due in calendar year 2009-2029 and at 3.75%-8.63%, due in calendar year 2008-2029

    784     597  

Fair value adjustment related to SFAS No. 133

    293     78  
           

    16,502     10,350  
           

Less: current portion

    (2,610 )   (2,674 )
           

Total long-term debt

  $ 13,892   $ 7,676  
           

        HP may redeem some or all of the Global Notes set forth in the above table at any time at the redemption prices described in the prospectus supplements relating thereto. The Global Notes are senior unsecured debt.

        HP registered the sale of up to $3.0 billion of debt or global securities, common stock, preferred stock, depositary shares and warrants under a shelf registration statement in March 2002 (the "2002 Shelf Registration Statement"). The 2002 Shelf Registration Statement expired on December 1, 2008, and, accordingly, HP is no longer able to issue any additional securities under this Registration Statement.

        In May 2009, HP filed a shelf registration statement (the "2009 Shelf Registration Statement") with the Securities and Exchange Commission ("SEC") to enable the Company to offer and sell, from time to time, in one or more offerings, an unspecified amount of debt securities, common stock, preferred stock, depositary shares and warrants. The 2009 Shelf Registration Statement replaced a similar registration statement filed in May 2006 that expired in May 2009 (the "2006 Shelf Registration Statement"). As of July 31, 2009, HP had $10.8 billion of global notes issued under the 2006 Shelf Registration Statement and $2.0 billion of global notes issued under the 2009 Shelf Registration Statement. On December 5, 2008, HP issued $2.0 billion of global notes under the 2006 Shelf Registration Statement. The global notes issued in December 2008 are due in March 2014, bear interest at a fixed interest rate of 6.125% per annum and were issued at a discount to par of 99.561%. On February 26, 2009, HP issued an additional $2.8 billion of global notes under the 2006 Shelf Registration Statement. The global notes include $275 million of floating rate notes at three-month USD LIBOR plus 1.75% due February 2011 issued at par, $1.0 billion of notes due February 2012 with a fixed rate of 4.25% per annum issued at a discount to par of 99.956% and $1.5 billion of notes due June 2014 with a fixed rate of 4.75% per annum issued at a discount to par of 99.993%. On May 27, 2009, HP issued $2.0 billion of global notes under the 2009 Shelf Registration Statement. The global notes issued in May 2009 include $1.0 billion of notes due May 2011 with a fixed rate of 2.25% per annum issued at a discount to par of 99.967%, $750 million of floating rate notes due May 2011 at three-month USD LIBOR plus 1.05% issued at par, and $250 million of notes due August 2012 with a fixed rate of 2.95% per annum issued at a discount to par of 99.984%. HP used the net proceeds from

36



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 12: Borrowings (Continued)


the December 2008, February 2009 and May 2009 offerings for general corporate purposes and the repayment of short-term commercial paper, some of which was issued in connection with its acquisition of EDS.

        In May 2008, HP's Board of Directors approved increasing the capacity of HP's U.S. commercial paper program by $10.0 billion to $16.0 billion. HP's subsidiaries are authorized to issue up to an additional $1.0 billion of commercial paper, of which $500 million of capacity is currently available to be used by Hewlett-Packard International Bank PLC, a wholly-owned subsidiary of HP, for its Euro Commercial Paper/Certificate of Deposit Programme.

        In October 2008, HP registered for the Commercial Paper Funding Facility ("CPFF") provided by the Federal Reserve Bank of New York. The facility enables HP to issue three-month unsecured commercial paper through a special purpose vehicle of the Federal Reserve at a rate established by the CPFF program, which is currently equal to a spread over the three-month overnight index swap rate. The maximum amount of commercial paper that HP may issue at any time through this program is $10.4 billion less the total principal amount of all other outstanding commercial paper that HP has issued. The CPFF program is currently scheduled to expire on February 1, 2010. As of July 31, 2009, HP had not issued any commercial paper under the CPFF program.

        HP has a $2.9 billion five-year credit facility expiring in May 2012. In February and July 2008, HP entered into additional 364-day credit facilities of $3.0 billion and $8.0 billion, respectively. The February 2008 credit facility expired in February 2009, at which time HP entered into a new $3.5 billion 364-day credit facility. HP terminated the July 2008 credit facility in May 2009, which reduced the total amount available under its credit facilities to $6.4 billion. Commitment fees, interest rates and other terms of borrowing under the credit facilities vary based on HP's external credit ratings. The credit facilities are senior unsecured committed borrowing arrangements primarily to support the issuance of U.S. commercial paper.

        HP also maintains uncommitted lines of credit from a number of financial institutions that are available through various foreign subsidiaries. The amount available for use as of July 31, 2009 was approximately $1.3 billion.

        Included in Other, including capital lease obligations, are borrowings that are collateralized by certain financing receivable assets. As of July 31, 2009, the carrying value of the assets approximated the carrying value of the borrowings of $10 million.

        At July 31, 2009, HP was able to issue an unspecified amount of additional debt securities, common stock, preferred stock, depositary shares and warrants under the 2009 Shelf Registration Statement. As of that date, HP also had up to approximately $17.5 billion of available borrowing resources, including $16.2 billion under its commercial paper programs, $6.4 billion of which is supported by its credit facilities, and approximately $1.3 billion under other programs.

Note 13: Income Taxes

        HP's effective tax rate was 17.8% and 20.6% for the three months ended July 31, 2009 and July 31, 2008, respectively, and 18.1% and 20.6% for the nine months ended July 31, 2009 and July 31, 2008, respectively. HP's effective tax rate generally differs from the U.S. federal statutory rate of 35%

37



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 13: Income Taxes (Continued)

due to favorable tax rates associated with certain earnings from HP's operations in lower-tax jurisdictions throughout the world. HP has not provided U.S. taxes for all of such earnings because HP plans to reinvest some of those earnings indefinitely outside the United States.

        In the three and nine months ended July 31, 2009, HP recorded discrete items with a net tax benefit of $145 million and $163 million, respectively, decreasing the effective tax rate. These amounts include a net tax benefit of $141 million for the adjustment to estimated fiscal 2008 tax accruals upon filing the 2008 U.S. federal income tax return and other miscellaneous discrete items that resulted in a net tax benefit of $4 million and $22 million for the three and nine months ended July 31, 2009, respectively.

        In the three and nine months ended July 31, 2008, HP recorded discrete items with a net tax benefit of $5 million and $52 million, respectively, decreasing the effective tax rate. These amounts include reductions to net income tax accruals of $72 million and $296 million for the three and nine months ended July 31, 2008, respectively, as a result of settlements with tax authorities regarding certain transfer pricing issues for fiscal years 1993 through 2005. These favorable adjustments in the three and nine months ended July 31, 2008 were offset in part by a tax charge of $44 million for the adjustment to estimated fiscal 2007 tax accruals upon filing the 2007 U.S. federal income tax return, and by net increases of $30 million and $235 million, respectively, to deferred tax liabilities related to earnings outside the United States. HP recorded other miscellaneous discrete items that resulted in a net tax benefit of $7 million and $35 million for the three and nine months ended July 31, 2008, respectively.

        During the third quarter of fiscal 2009, the amounts of gross unrecognized tax benefits determined in accordance with Financial Interpretation No. 48, "Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109" ("FIN 48") decreased by $160 million to $2.1 billion as of July 31, 2009, of which up to $775 million would affect HP's effective tax rate if realized.

        HP recognizes interest expense and penalties on unrecognized tax benefits and interest income from favorable settlements and income tax receivables within income tax expense. As of July 31, 2009 HP had accrued a net $158 million income tax payable for interest and penalties. There were no material amounts of net interest income on tax overpayments recorded during the three and nine months ended July 31, 2009.

        HP engages in continuous discussion and negotiation with tax authorities regarding tax matters in the various jurisdictions. HP does not expect complete resolution of any Internal Revenue Service ("IRS") audit cycle within the next 12 months. However, it is reasonably possible that certain federal, foreign and state tax issues may be concluded in the next 12 months, including issues involving transfer pricing and other matters. Accordingly, HP believes it is reasonably possible that its existing unrecognized tax benefits may be reduced by an amount up to $170 million within the next twelve months.

        On July 30, 2009, HP received a Notice of Deficiency from the IRS for its fiscal 2004 and 2005 tax years. The Notice of Deficiency asserted that HP owes additional tax of $92 million and penalties of $5 million. In addition to the proposed deficiency for fiscal 2004 and 2005, the IRS's adjustments for both years, if sustained, would reduce the tax benefits of net operating loss and tax credit carryforwards to subsequent years by approximately $563 million. HP plans to contest certain of the adjustments

38



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 13: Income Taxes (Continued)


proposed in the Notice of Deficiency. HP believes that it has provided adequate reserves for any tax deficiencies or reductions in tax benefits that could result from the IRS actions.

        HP is subject to income tax in the United States and over sixty foreign countries and is subject to routine corporate income tax audits in many of these jurisdictions. In addition, HP is subject to numerous ongoing audits by state and foreign tax authorities. HP has received from the IRS Notices of Deficiency for its fiscal 1999, 2000, 2004 and 2005 tax years, and Revenue Agent's Reports for its fiscal 2001 and 2002 tax years. The IRS began an audit of HP's 2006 and 2007 income tax returns in 2009. With respect to major foreign and state tax jurisdictions, HP is no longer subject to tax authority examinations for years prior to 1999. HP believes that adequate reserves have been provided for all open tax years.

        The breakdown between current and long-term deferred tax assets and deferred tax liabilities was as follows:

 
  July 31,
2009
  October 31,
2008
 
 
  In millions
 

Current deferred tax assets

  $ 4,297   $ 3,920  

Current deferred tax liabilities

    (87 )   (97 )

Long-term deferred tax assets

    1,017     792  

Long-term deferred tax liabilities

    (3,657 )   (3,162 )
           

Total deferred tax assets net of deferred tax liabilities

  $ 1,570   $ 1,453  
           

Note 14: Stockholders' Equity

        HP's share repurchase program authorizes both open market and private repurchase transactions. In the three and nine months ended July 31, 2009, HP executed share repurchases of 29 million shares and 74 million shares, respectively. For the three months ended July 31, 2009, repurchases of 28 million shares were settled for $1.0 billion. For the nine months ended July 31, 2009, repurchases of approximately 85 million shares were settled for $3.0 billion, which included 14 million shares repurchased in transactions that were executed in fiscal 2008 but settled in the first nine months of fiscal 2009. HP had approximately 3 million shares repurchased in the third quarter of fiscal 2009 that will be settled in the fourth quarter of fiscal 2009. HP paid approximately $1.6 billion and $7.7 billion in connection with repurchases of approximately 34 million shares and 171 million shares in the three and nine months ended July 31, 2008, respectively.

        As of July 31, 2009, HP had remaining authorization of $6.1 billion for future share repurchases under the $8.0 billion repurchase authorization approved by HP's Board of Directors on September 19, 2008.

39



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 14: Stockholders' Equity (Continued)

        The changes in the components of other comprehensive income ("OCI"), net of taxes, were as follows:

 
  Three months ended July 31  
 
  2009   2008  
 
  In millions
 

Net earnings

  $ 1,642   $ 2,027  

Net change in unrealized gains/losses on available-for-sale securities:

             
 

Change in net unrealized gains, net of tax of $1 million in 2009 and with no tax effect in 2008

    2     1  
           

    2     1  
           

Net change in unrealized gains/losses on cash flow hedges:

             
 

Change in net unrealized (losses) gains, net of tax benefit of $112 million in 2009 and net of tax of $1 million in 2008

    (193 )   2  
 

Net unrealized (gains) losses reclassified into earnings, net of tax of $48 million in 2009 and net of tax benefit of $5 million in 2008

    (82 )   9  
           

    (275 )   11  
           

Net change in cumulative translation adjustment, net of tax of $189 million in 2009 and $6 million in 2008

    423     7  

Net change in unrealized components of defined benefit plans, net of tax benefit of $30 million in 2009 and $7 million in 2008

    (20 )   (6 )
           

Comprehensive income

  $ 1,772   $ 2,040  
           

40



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 14: Stockholders' Equity (Continued)


 
  Nine months ended July 31  
 
  2009   2008  
 
  In millions
 

Net earnings

  $ 5,212   $ 6,217  

Net change in unrealized gains/losses on available-for-sale securities:

             
 

Change in net unrealized gains (losses), net of tax of $1 million in 2009 and with no tax effect in 2008

    6     (2 )
 

Net unrealized gains reclassified into earnings, with no tax effect in 2009 and 2008

    (1 )    
           

    5     (2 )
           

Net change in unrealized gains/losses on cash flow hedges:

             
 

Change in net unrealized (losses) gains, net of tax benefit of $138 million in 2009 and net of tax of $6 million in 2008

    (238 )   11  
 

Net unrealized (gains) losses reclassified into earnings, net of tax of $418 million in 2009 and net of tax benefit of $32 million in 2008

    (721 )   56  
           

    (959 )   67  
           

Net change in cumulative translation adjustment, net of tax of $180 million in 2009 and $7 million in 2008

    178     18  

Net change in unrealized components of defined benefit plans, net of tax of $24 million in 2009 and net of tax benefit of $21 million in 2008

    45     (46 )
           

Comprehensive income

  $ 4,481   $ 6,254  
           

        The components of accumulated other comprehensive loss, net of taxes, were as follows:

 
  July 31,
2009
  October 31,
2008
 
 
  In millions
 

Net unrealized losses on available-for-sale securities

  $ (7 ) $ (12 )

Net unrealized (losses) gains on cash flow hedges

    (157 )   802  

Cumulative translation adjustment

    (585 )   (763 )

Unrealized components of defined benefit plans

    (47 )   (92 )
           

Accumulated other comprehensive loss

  $ (796 ) $ (65 )
           

Note 15: Retirement and Post-Retirement Benefit Plans

        HP offers various defined contribution plans for U.S. and non-U.S. employees. As disclosed in our Consolidated Financial Statements for the fiscal year ended October 31, 2008, HP matches employee contributions to the U.S. HP 401(k) Plan with cash contributions up to a maximum of 6% of eligible compensation for U.S. employees hired prior to August 1, 2008 and up to a maximum of 4% of eligible compensation for U.S. employees hired on or after August 1, 2008. Further, effective January 1, 2009,

41



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 15: Retirement and Post-Retirement Benefit Plans (Continued)

U.S. employees participating in the EDS 401(k) Plan became eligible for a 4% HP matching contribution on eligible compensation.

        Effective April 1, 2009, HP matching contributions under both the U.S. HP 401(k) Plan and the EDS 401(k) Plan were changed to a quarterly, discretionary, performance-based match of up to a maximum of 4% of eligible compensation for all U.S. employees, which will be determined each fiscal quarter based on business results. HP matching contributions will vary from 0% to 100% of the maximum 4% match, based on factors such as quarterly earnings, market share growth, and performance relative to market and economic conditions. HP's matching contributions for the extended period of April 1, 2009 through July 31, 2009 was 100% of the maximum 4% match.

        HP's net pension and post-retirement benefit costs were as follows:

 
  Three months ended July 31  
 
  U.S.
Defined
Benefit Plans
  Non-U.S.
Defined
Benefit Plans
  Post-
Retirement
Benefit Plans
 
 
  2009   2008   2009   2008   2009   2008  
 
  In millions
 

Service cost

  $ 7   $ 8   $ 79   $ 66   $ 3   $ 7  

Interest cost

    148     59     159     109     18     20  

Expected return on plan assets

    (133 )   (63 )   (170 )   (171 )   (8 )   (10 )

Amortization and deferrals:

                                     
 

Actuarial (gain) loss

    (19 )   (9 )   18     1     2     5  
 

Prior service benefit

            (2 )   (2 )   (20 )   (14 )
                           

Net periodic benefit cost (gain)

  $ 3   $ (5 ) $ 84   $ 3   $ (5 ) $ 8  

Special termination benefits

            1              
                           

Net benefit cost (gain)

  $ 3   $ (5 ) $ 85   $ 3   $ (5 ) $ 8  
                           

42



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 15: Retirement and Post-Retirement Benefit Plans (Continued)


 
  Nine months ended July 31  
 
  U.S.
Defined
Benefit Plans
  Non-U.S.
Defined
Benefit Plans
  Post-
Retirement
Benefit Plans
 
 
  2009   2008   2009   2008   2009   2008  
 
  In millions
 

Service cost

  $ 20   $ 24   $ 231   $ 193   $ 10   $ 21  

Interest cost

    444     177     458     323     53     59  

Expected return on plan assets

    (399 )   (190 )   (493 )   (506 )   (24 )   (30 )

Amortization and deferrals:

                                     
 

Actuarial (gain) loss

    (53 )   (27 )   52     1     5     15  
 

Prior service benefit

            (6 )   (6 )   (59 )   (42 )
                           

Net periodic benefit cost (gain)

  $ 12   $ (16 ) $ 242   $ 5   $ (15 ) $ 23  

Settlement gain

    (1 )                    

Curtailment gain

                    (2 )    

Special termination benefits

            4     3          
                           

Net benefit cost (gain)

  $ 11   $ (16 ) $ 246   $ 8   $ (17 ) $ 23  
                           

        HP previously disclosed in its Consolidated Financial Statements for the fiscal year ended October 31, 2008 that it expected to contribute approximately $360 million to its non-U.S. pension plans and approximately $35 million to cover benefit payments to U.S. non-qualified plan participants in fiscal 2009. In addition, HP expected to pay approximately $70 million to cover benefit claims for HP's post-retirement benefit plans. HP's funding policy is to contribute cash to its pension plans so that it meets at least the minimum contribution requirements, as established by local government and funding and taxing authorities.

        As of July 31, 2009, HP has made $394 million of contributions to non-U.S. pension plans, paid $24 million to cover benefit payments to U.S. non-qualified plan participants, and paid $29 million to cover benefit claims under post-retirement benefit plans. HP presently anticipates making additional contributions of approximately $70 million to its non-U.S. pension plans and approximately $5 million to its U.S. non-qualified plan participants and expects to pay up to $15 million to cover benefit claims under post-retirement benefit plans during the remainder of fiscal 2009. HP's pension and other post-retirement benefit costs and obligations are dependent on various assumptions. Differences between expected and actual returns on investments will be reflected as unrecognized gains or losses, and such gains or losses will be amortized and recorded in future periods. Poor financial performance of asset markets in any year could lead to increased contributions in certain countries and increased future pension plan expense. Asset gains or losses are determined at the measurement date and amortized over the remaining service life or life expectancy of plan participants. HP's next expected measurement date is October 31, 2009.

43



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 16: Litigation and Contingencies

        HP is involved in lawsuits, claims, investigations and proceedings, including those identified below, consisting of intellectual property, commercial, securities, employment, employee benefits and environmental matters that arise in the ordinary course of business. In accordance with SFAS No. 5, "Accounting for Contingencies," HP records a provision for a liability when management believes that it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. HP believes it has adequate provisions for any such matters. HP reviews these provisions at least quarterly and adjusts these provisions to reflect the impact of negotiations, settlements, rulings, advice of legal counsel, and other information and events pertaining to a particular case. Based on its experience, HP believes that any damage amounts claimed in the specific matters discussed below are not a meaningful indicator of HP's potential liability. Litigation is inherently unpredictable. However, HP believes that it has valid defenses with respect to legal matters pending against it. Nevertheless, it is possible that cash flows or results of operations could be materially affected in any particular period by the unfavorable resolution of one or more of these contingencies or because of the diversion of management's attention and the creation of significant expenses.

Pending Litigation, Proceedings and Investigations

        Copyright levies. As described below, proceedings are ongoing against HP in certain European Union ("EU") member countries, including litigation in Germany, seeking to impose levies upon equipment (such as multifunction devices ("MFDs"), personal computers ("PCs") and printers) and alleging that these devices enable producing private copies of copyrighted materials. The total levies due, if imposed, would be based upon the number of products sold and the per-product amounts of the levies, which vary. Some EU member countries that do not yet have levies on digital devices are expected to implement similar legislation to enable them to extend existing levy schemes, while some other EU member countries are expected to limit the scope of levy schemes and applicability in the digital hardware environment. HP, other companies and various industry associations are opposing the extension of levies to the digital environment and advocating alternative models of compensation to rights holders.

        VerwertungsGesellschaft Wort ("VG Wort"), a collection agency representing certain copyright holders, instituted non-binding arbitration proceedings against HP in June 2001 in Germany before the arbitration board of the Patent and Trademark Office. The proceedings relate to whether and to what extent copyright levies for photocopiers should be imposed in accordance with copyright laws implemented in Germany on MFDs that allegedly enable the production of copies by private persons. Following unsuccessful arbitration, VG Wort filed a lawsuit against HP in May 2004 in the Stuttgart Civil Court in Stuttgart, Germany seeking levies on certain MFDs sold from 1997 to 2001. On December 22, 2004, the court held that HP is liable for payments regarding MFDs sold in Germany, and ordered HP to pay VG Wort an amount equal to 5% of the outstanding levies claimed, plus interest, on MFDs sold in Germany up to December 2001. VG Wort appealed this decision. On July 6, 2005, the Stuttgart Court of Appeals ordered HP to pay VG Wort levies based on the published tariffs for photocopiers in Germany (which range from EUR 38.35 to EUR 613.56 per unit), plus interest, on MFDs sold in Germany up to December 2001. HP appealed the Stuttgart Court of Appeals' decision to the Bundesgerichtshof (the German Federal Supreme Court). On January 30, 2008, the German Federal Supreme Court held that the MFDs covered by this lawsuit were photocopiers within the meaning of the German copyright law that was in effect until December 31, 2007, and, therefore, are

44



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 16: Litigation and Contingencies (Continued)


subject to the levies on photocopiers established by that law. HP subsequently appealed the decision by filing a claim with the German Federal Constitutional Court challenging that ruling and the application of conventional photocopier levies for MFDs sold in Germany up to December 2001. On June 4, 2009, the German Constitutional Court declined to hear HP's appeal.

        On September 26, 2005, VG Wort filed an additional lawsuit against HP in the Stuttgart Civil Court in Stuttgart, Germany seeking assurance of full payment of levies on MFD units sold in Germany between 1997 and 2001, as well as for MFDs sold from 2002 onwards. On July 26, 2007, the court issued a decision following the ruling of the Stuttgart Court of Appeals with respect to the initial VG Wort lawsuit as described above. HP appealed the decision. On March 25, 2009, the German Association for Information Technology, Telecommunications and New Media e.V. entered into a settlement agreement with VG Wort and Verwertungsgesellschaft Bild-Kunst, another collection agency representing copyright holders ("VG Bild-Kunst"), that provides for the payment of levies on MFDs sold from 2002 through 2007. The levies vary from approximately €13 to €307 per unit depending on the type of device, the date sold and the copy speed and are subject to reduction if VG Wort or VG Bild-Kunst grants more favorable rates in the future to parties within Germany that are not covered by the settlement. HP has acceded to the settlement and paid all amounts due thereunder.

        In July 2004, VG Wort filed a separate lawsuit against HP in the Stuttgart Civil Court seeking levies on printers. On December 22, 2004, the court held that HP is liable for payments regarding all printers using ASCII code sold in Germany but did not determine the amount payable per unit. HP appealed this decision in January 2005 to the Stuttgart Court of Appeals. On May 11, 2005, the Stuttgart Court of Appeals issued a decision confirming that levies are due. On June 6, 2005, HP filed an appeal to the German Federal Supreme Court in Karlsruhe. On December 6, 2007, the German Federal Supreme Court issued a judgment that printers are not subject to levies under the existing law. The court issued a written decision on January 25, 2008, and VG Wort subsequently filed an application with the German Federal Supreme Court under Section 321a of the German Code of Civil Procedure contending that the court did not consider their arguments. On May 9, 2008, the German Federal Supreme Court denied VG Wort's application. In addition, VG Wort has appealed the decision by filing a claim with the German Federal Constitutional Court challenging the ruling that printers are not subject to levies. HP has been directed by the Constitutional Court to respond to VG Wort's claim by October 12, 2009.

        In September 2003, VG Wort filed a lawsuit against Fujitsu Siemens Computer GmbH ("FSC") in the Munich Civil Court in Munich, Germany seeking levies on PCs. This is an industry test case in Germany, and HP has agreed not to object to the delay if VG Wort sues HP for such levies on PCs following a final decision against FSC. On December 23, 2004, the Munich Civil Court held that PCs are subject to a levy and that FSC must pay 12 euros plus compound interest for each PC sold in Germany since March 2001. FSC appealed this decision in January 2005 to the Munich Court of Appeals. On December 15, 2005, the Munich Court of Appeals affirmed the Munich Civil Court decision. FSC filed an appeal with the German Federal Supreme Court in February 2006. On October 2, 2008, the German Federal Supreme Court issued a judgment that PCs were not photocopiers within the meaning of the German copyright law that was in effect until December 31, 2007 and, therefore, not subject to the levies on photocopiers established by that law. VG Wort has filed a claim with the German Federal Constitutional Court challenging that ruling.

45



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 16: Litigation and Contingencies (Continued)

        On December 29, 2005, ZPU, a joint association of various German collection societies, instituted non-binding arbitration proceedings against HP before the arbitration board of the Patent and Trademark Office demanding reporting of every PC sold by HP in Germany from January 2002 through December 2005 and seeking a levy of 18.42 euros plus tax for each PC sold during that period. HP filed a notice of defense in connection with these proceedings in February 2006, and an arbitration hearing was held in December 2006. On July 31, 2007, the arbitration board issued a ruling proposing a levy of 15 euros plus tax for each PC sold during that period. HP has rejected the ruling of the arbitration board, and the arbitration proceedings have concluded. ZPU has filed a claim with the Munich Court of Appeals to which HP has responded. A hearing date has been set by the court for February 18, 2010.

        Based on industry opposition to the extension of levies to digital products, HP's assessments of the merits of various proceedings and HP's estimates of the units impacted and levies, HP has accrued amounts that it believes are adequate to address the matters described above. However, the ultimate resolution of these matters and the associated financial impact on HP, including the number of units impacted, the amount of levies imposed and the ability of HP to recover such amounts through increased prices, remains uncertain.

        Sky Subscribers Services Limited and British Sky Broadcasting Limited v. EDS and EDS Limited (UK) is a lawsuit filed on August 17, 2004 by Sky Subscribers Services Limited and British Sky Broadcasting Limited against Electronic Data Systems Corporation ("EDS"), a company that HP acquired in August 2008, and EDS Limited (UK) ("EDS UK"), one of EDS's subsidiaries, alleging deceit, negligent misrepresentation, negligent misstatement and breach of contract. The claims arose out of a customer relationship management project that was awarded to EDS in 2000, the principal objective of which was to develop a customer call center in Scotland. EDS's main role in the project was as systems integrator. On November 12, 2004, EDS and EDS UK filed their defense and counterclaim denying the claims and seeking damages for monies owed under the contract. The trial of this action commenced on October 15, 2007, and final arguments concluded on July 30, 2008. At trial, the plaintiffs claimed damages in excess of £700 million, and EDS and EDS UK counterclaimed for damages of approximately £5 million. HP is awaiting a decision from the court.

        Skold, et al. v. Intel Corporation and Hewlett-Packard Company is a lawsuit in which HP was joined on June 14, 2004 that is pending in state court in Santa Clara County, California. The lawsuit alleges that HP (along with Intel) misled the public by suppressing and concealing the alleged material fact that systems that use the Intel Pentium 4 processor are less powerful and slower than systems using the Intel Pentium III processor and processors made by a competitor of Intel. The plaintiffs seek unspecified damages, restitution, attorneys' fees and costs, and certification of a nationwide class. On February 27, 2009, the court denied without prejudice plaintiffs' motion for nationwide class certification for a third time. The plaintiffs have appealed the court's decision.

        Inkjet Printer Litigation. As described below, HP is involved in several lawsuits claiming breach of express and implied warranty, unjust enrichment, deceptive advertising and unfair business practices where the plaintiffs have alleged, among other things, that HP employed a "smart chip" in certain inkjet printing products in order to register ink depletion prematurely and to render the cartridge unusable through a built-in expiration date that is hidden, not documented in marketing materials to consumers, or both. The plaintiffs have also contended that consumers received false ink depletion

46



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 16: Litigation and Contingencies (Continued)


warnings and that the smart chip limits the ability of consumers to use the cartridge to its full capacity or to choose competitive products.

        Baggett v. HP is a consumer class action filed against HP on June 6, 2007 in the United States District Court for the Central District of California alleging that HP employs a technology in its LaserJet color printers whereby the printing process shuts down prematurely, thus preventing customers from using the toner that is allegedly left in the cartridge. The plaintiffs also allege that HP fails to disclose to consumers that they will be unable to utilize the toner remaining in the cartridge after the printer shuts down. The complaint seeks certification of a nationwide class of purchasers of all HP LaserJet color printers and seeks unspecified damages, restitution, disgorgement, injunctive relief, attorneys' fees and costs. The plaintiffs' motion for class certification and HP's motion for summary judgment are currently pending before the court.

        Rich v. HP is a consumer class action filed against HP on May 22, 2006 in the United States District Court for the Northern District of California. The suit alleges that HP designed its color inkjet printers to unnecessarily use color ink in addition to black ink when printing black and white images and text. The plaintiffs are seeking to certify a nationwide injunctive class and a California-only damages class. A class certification hearing is scheduled for January 8, 2010.

        On December 27, 2001, Cornell University and the Cornell Research Foundation, Inc. filed a complaint, amended on September 6, 2002, against HP in United States District Court for the Northern District of New York alleging that HP's PA-RISC 8000 family of microprocessors, and servers and workstations incorporating those processors, infringe a patent assigned to Cornell Research Foundation, Inc. that describes a way of executing microprocessor instructions. The complaint sought declaratory and injunctive relief and unspecified damages. The patent at issue in this litigation, United States Patent No. 4,807,115, expired on February 21, 2006. Therefore, the plaintiffs are no longer entitled to seek injunctive relief against HP. This matter was tried between May 19 and May 30, 2008,

47



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 16: Litigation and Contingencies (Continued)


and, on May 30, 2008, a jury returned a verdict in favor of the plaintiffs in the amount of $184 million. On March 30, 2009, the trial court issued four post-trial decisions. The court denied several of HP's post-trial motions, but granted HP's motion to reduce the damages award. The court reduced the award to approximately $53 million and subsequently entered judgment in favor of the plaintiffs in that amount. On April 10, 2009, HP filed a notice that it will appeal the judgment to the United States Court of Appeals for the Federal Circuit. On May 15, 2009, the court awarded approximately $17 million in pre-judgment interest and approximately $1 million in costs and subsequently entered an amended judgment reflecting those awards. On June 2, 2009, the court entered a final amended judgment reflecting the total amount of damages, pre-judgment interest and taxable costs. On June 4, 2009, HP filed an amended notice of appeal.

        Fair Labor Standards Act Litigation. As described below, HP is involved in several lawsuits in which the plaintiffs are seeking unpaid overtime compensation and other damages based on allegations that various employees of EDS or HP have been misclassified as exempt employees under the Fair Labor Standards Act and/or in violation of the California Labor Code:

        The United States of America, ex rel. Norman Rille and Neal Roberts v. Hewlett-Packard Company, et al. In 2004, two private individuals filed a civil "qui tam" complaint under the False Claims Act in the United States District Court for the Eastern District of Arkansas containing generalized allegations that HP and several other companies participated in an industry-wide practice of using partnership and alliance programs to make improper payments and cause the submission of false claims in connection

48



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 16: Litigation and Contingencies (Continued)


with contracts to provide products and services to the federal government. On April 12, 2007, the U.S. Department of Justice intervened in the qui tam action and filed a complaint against HP (and several other companies in separate actions) on behalf of the United States containing allegations that HP violated the False Claims Act and the Anti-Kickback Act of 1986 by providing millions of dollars in kickbacks to its alliance partners, including "influencer fees" and "new business opportunity rebates." The U.S. complaint further alleges that HP violated the False Claims Act and the Anti-Kickback Act, breached its federal government contracts, induced the federal government to make payments to HP that HP was not entitled to receive under those contracts, and was unjustly enriched by expressly or impliedly making false statements, records or certifications to the federal government that it complied with and would continue to comply with the Anti-Kickback Act and by submitting claims to the government that allegedly were inflated because they included the amounts of the influencer fees and new business opportunity rebates. The U.S. complaint seeks treble damages plus civil penalties in connection with the alleged violations of the False Claims Act, double damages plus civil penalties in connection with the alleged violations of the Anti-Kickback Act and disgorgement of profits earned in connection with the breach of contract and unjust enrichment claims.

        Leak Investigation Proceedings. As described below, HP is or has been the subject of various governmental inquiries concerning the processes employed in an investigation into leaks of HP confidential information to members of the media that concluded in May 2006:

49



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 16: Litigation and Contingencies (Continued)

        In addition, four stockholder derivative lawsuits have been filed in California purportedly on behalf of HP stockholders seeking to recover damages for alleged breach of fiduciary duty and to require HP to improve its corporate governance and internal control procedures as a result of the activities of the leak investigation: Staehr v. Dunn, et al. was filed in Santa Clara County Superior Court on September 18, 2006; Worsham v. Dunn, et al. was filed in Santa Clara County Superior Court on September 14, 2006; Tansey v. Dunn, et al. was filed in Santa Clara County Superior Court on September 20, 2006; and Hall v. Dunn, et al. was filed in Santa Clara County Superior Court on September 25, 2006. On October 19, 2006, the Santa Clara County Superior Court consolidated the four California cases under the caption In re Hewlett-Packard Company Derivative Litigation. The consolidated complaint filed on November 19, 2006, also seeks to recover damages in connection with sales of HP stock alleged to have been made by certain current and former HP officers and directors while in possession of material non-public information. Two additional stockholder derivative lawsuits, Pifko v. Babbio, et al., filed on September 19, 2006, and Gross v. Babbio, et al., filed on November 21, 2006, were filed in Chancery Court, County of New Castle, Delaware; both seek to recover damages for alleged breaches of fiduciary duty and to obtain an order instructing the defendants to refrain from further breaches of fiduciary duty and to implement corrective measures that will prevent future occurrences of the alleged breaches of fiduciary duty. On January 24, 2007, the Delaware court consolidated the two cases under the caption In re Hewlett-Packard Company Derivative Litigation and subsequently stayed the proceedings, as the parties had reached a tentative settlement. The HP Board of Directors appointed a Special Litigation Committee consisting of independent Board members authorized to investigate, review and evaluate the facts and circumstances asserted in these derivative matters and to determine how HP should proceed in these matters. On December 14, 2007, HP and the plaintiffs in the California and Delaware derivative actions entered into an agreement to settle those lawsuits. Under the terms of the settlement, HP agreed to continue certain corporate governance

50



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 16: Litigation and Contingencies (Continued)


changes until December 31, 2012 and to pay the plaintiffs' attorneys' fees. The California court granted final approval to the settlement on March 11, 2008 and subsequently granted plaintiffs' counsel's fee application and dismissed the action. On June 12, 2008, the Delaware court granted final approval to the settlement and the plaintiffs' application for attorneys' fees and also dismissed the action. Because neither the dismissal of the California nor the Delaware derivative action was thereafter appealed, both cases are now concluded.

Concluded Litigation

        Schorsch v. HP was a consumer class action filed against HP on October 28, 2003 in Illinois state court alleging that HP had included an electrically erasable programmable read only memory (EEPROM) chip in certain of its LaserJet printers that prematurely advises the user that the drum kit needs replacing in violation of Illinois state law. The plaintiffs subsequently filed an amended complaint seeking to expand the class from purchasers of drum kits to purchasers of all HP printer consumables that contain EEPROM chips. The plaintiffs sought certification of an Illinois-only class and unspecified damages, attorneys' fees and costs. The action was dismissed by the court with prejudice on December 20, 2008.

        CSIRO Patent Litigation. Microsoft Corporation, Hewlett-Packard Company, et al. v. Commonwealth Scientific and Industrial Research Organisation of Australia is an action filed by HP and two other plaintiffs on May 9, 2005, in the District Court for the Northern District of California seeking a declaratory judgment against Commonwealth Scientific and Industrial Research Organisation of Australia ("CSIRO") that HP's products employing the IEEE 802.11a and 802.11g wireless protocol standards do not infringe CSIRO's United States Patent No. 5,487,069 relating to wireless transmission of data at frequencies in excess of 10GHz. On September 22, 2005, CSIRO filed an answer and counterclaims alleging that all HP products which employ those wireless protocol standards infringe the CSIRO patent and seeking damages, including enhanced damages and attorneys' fees and costs, and an injunction against sales of infringing products. On December 12, 2006, CSIRO successfully moved to have the case transferred to the District Court of the Eastern District of Texas. In March 2009, the parties agreed to settle the matter and dismiss the pending lawsuit. Under the terms of the settlement agreement, HP agreed to pay CSIRO an amount of money that is immaterial to HP in exchange for protection from claims of infringement of the patent at issue, including all United States and worldwide continuations and counterparts of that patent, in the form of a combination of licenses and covenants not to sue. The parties filed a stipulation dismissing the case on March 26, 2009.

Environmental

        HP is subject to various federal, state, local and foreign laws and regulations concerning environmental protection, including laws addressing the discharge of pollutants into the air and water, the management and disposal of hazardous substances and wastes, the cleanup of contaminated sites, the content of its products and the recycling, treatment and disposal of its products including batteries. In particular, HP faces increasing complexity in its product design and procurement operations as it adjusts to new and future requirements relating to the chemical and materials composition of its products, their safe use, the energy consumption associated with those products and product take-back legislation. HP could incur substantial costs, its products could be restricted from entering certain

51



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 16: Litigation and Contingencies (Continued)


jurisdictions, and it could face other sanctions if it were to violate or become liable under environmental laws or if its products become non-compliant with environmental laws. HP's potential exposure includes fines and civil or criminal sanctions, third-party property damage or personal injury claims and clean up costs. The amount and timing of costs under environmental laws are difficult to predict.

        HP is party to, or otherwise involved in, proceedings brought by U.S. or state environmental agencies under the Comprehensive Environmental Response, Compensation and Liability Act ("CERCLA"), known as "Superfund," or state laws similar to CERCLA. HP is also conducting environmental investigations or remediations at several current or former operating sites pursuant to administrative orders or consent agreements with state environmental agencies.

        HP is also subject to legislation in an increasing number of jurisdictions that makes producers of electrical goods, including computers and printers, financially responsible for specified collection, recycling, treatment and disposal of past and future covered products (sometimes referred to as "product take-back legislation"). For example, the European Union ("EU") adopted the Waste Electrical and Electronic Equipment Directive in January 2003. That directive makes producers of electrical goods, including computers and printers, financially responsible for specified collection, recycling, treatment and disposal of past and future covered products. The EU member states were obliged to make producers participating in the market financially responsible for implementing these responsibilities.

Note 17: Segment Information

        HP is a leading global provider of products, technologies, software, solutions and services to individual consumers, small and medium sized businesses ("SMBs"), and large enterprises including the public and education sectors. HP's offerings span personal computing and other access devices; imaging and printing-related products and services; enterprise information technology ("IT") infrastructure, including enterprise storage and server technology; software that optimizes business technology investments; financial services including leasing; and multi-vendor customer services, including technology support and maintenance, consulting and integration, information technology and business process outsourcing services and application services.

        HP and its operations are organized into seven business segments for financial reporting purposes: Services, Enterprise Storage and Servers ("ESS"), HP Software, the Personal Systems Group ("PSG"), the Imaging and Printing Group ("IPG"), HP Financial Services ("HPFS"), and Corporate Investments. HP's organizational structure is based on a number of factors that management uses to evaluate, view and run its business operations, which include, but are not limited to, customer base, homogeneity of products and technology. The business segments disclosed in the accompanying Consolidated Condensed Financial Statements are based on this organizational structure and information reviewed by HP's management to evaluate the business segment results. Services, ESS and HP Software are reported collectively as a broader Technology Solutions Group ("TSG"). In order to provide a supplementary view of HP's business, aggregated financial data for TSG is presented herein.

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HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 17: Segment Information (Continued)

        HP has reclassified segment operating results for fiscal 2008 to conform to certain fiscal 2009 organizational realignments. None of the changes impacts HP's previously reported consolidated net revenue, earnings from operations, net earnings or net earnings per share. Future changes to this organizational structure may result in changes to the business segments disclosed. A description of the types of products and services provided by each business segment follows.

        Each of the business segments within TSG is described in detail below.

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HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 17: Segment Information (Continued)


(1)
Windows® is a registered trademark of Microsoft Corporation.

(2)
Itanium® is a registered trademark of Intel Corporation.

(3)
UNIX® is a registered trademark of The Open Group.

        HP's other business segments are described below.

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HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 17: Segment Information (Continued)

        HP derives the results of the business segments directly from its internal management reporting system. The accounting policies HP uses to derive business segment results are substantially the same as those the consolidated company uses. Management measures the performance of each business segment based on several metrics, including earnings from operations. Management uses these results, in part, to evaluate the performance of, and to assign resources to, each of the business segments. HP does not allocate to its business segments certain operating expenses, which it manages separately at the corporate level. These unallocated costs include primarily amortization of purchased intangible assets, stock-based compensation expense related to HP-granted employee stock options, PRUs and the employee stock purchase plan, certain acquisition-related charges and charges for purchased IPR&D, as well as certain corporate governance costs.

        HP does not allocate to its business segments restructuring charges and any associated adjustments related to restructuring actions.

55



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 17: Segment Information (Continued)

        Selected operating results information for each business segment was as follows:

 
  Three months ended July 31  
 
  Net Revenue   Earnings (Loss)
from Operations
 
 
  2009   2008(1)   2009   2008(1)  
 
  In millions
 

Services(2)

  $ 8,470   $ 4,386   $ 1,289   $ 567  

Enterprise Storage and Servers

    3,660     4,741     356     544  

HP Software

    847     1,086     153     135  
                   

Technology Solutions Group

    12,997     10,213     1,798     1,246  
                   

Personal Systems Group

    8,432     10,254     386     587  

Imaging and Printing Group

    5,660     7,041     960     1,042  

HP Financial Services

    670     680     53     51  

Corporate Investments

    193     271     (10 )   26  
                   

Segment total

  $ 27,932   $ 28,459   $ 3,187   $ 2,952  
                   

 

 
  Nine months ended July 31  
 
  Net Revenue   Earnings (Loss)
from Operations
 
 
  2009   2008(1)   2009   2008(1)  
 
  In millions
 

Services(2)

  $ 25,704   $ 12,700   $ 3,584   $ 1,573  

Enterprise Storage and Servers

    11,064     14,341     1,011     1,872  

HP Software

    2,605     3,072     450     288  
                   

Technology Solutions Group

    39,373     30,113     5,045     3,733  
                   

Personal Systems Group

    25,410     31,116     1,195     1,759  

Imaging and Printing Group

    17,557     22,042     3,139     3,404  

HP Financial Services

    1,947     2,007     140     141  

Corporate Investments

    577     719     (48 )   40  
                   

Segment total

  $ 84,864   $ 85,997   $ 9,471   $ 9,077  
                   

(1)
Certain fiscal 2009 organizational reclassifications have been reflected retroactively to provide improved visibility and comparability. For each of the quarters in fiscal year 2008, the reclassifications resulted in the transfer of revenue and operating profit among the Services, HP Software and Imaging and Printing Group financial reporting segments. In addition, certain previously allocated costs were reclassified to unallocated costs related to stock-based compensation expense. There was no impact on the previously reported financial results for the Enterprise Storage and Servers, Personal Systems Group, HP Financial Services and Corporate Investments segments.

(2)
Includes the results of EDS, which was acquired on August 26, 2008.

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HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 17: Segment Information (Continued)

        The reconciliation of segment operating results information to HP consolidated totals was as follows:

 
  Three months ended
July 31
  Nine months ended
July 31
 
 
  2009   2008   2009   2008  
 
  In millions
 

Net revenue:

                         

Segment total

  $ 27,932   $ 28,459   $ 84,864   $ 85,997  

Elimination of inter-segment net revenue and other

    (481 )   (427 )   (1,262 )   (1,236 )
                   

Total HP consolidated net revenue

  $ 27,451   $ 28,032   $ 83,602   $ 84,761  
                   

Earnings before taxes:

                         

Total segment earnings from operations

  $ 3,187   $ 2,952   $ 9,471   $ 9,077  

Corporate and unallocated costs and eliminations

    (81 )   (85 )   (119 )   (308 )

Unallocated costs related to stock-based compensation expense

    (132 )   (120 )   (436 )   (375 )

Amortization of purchased intangible assets

    (379 )   (213 )   (1,171 )   (630 )

In-process research and development charges

            (6 )   (13 )

Restructuring charges

    (362 )   (5 )   (602 )   (19 )

Acquisition-related charges

    (59 )       (182 )    

Interest and other, net

    (177 )   23     (589 )   98  
                   

Total HP consolidated earnings before taxes

  $ 1,997   $ 2,552   $ 6,366   $ 7,830  
                   

        HP allocates its assets to its business segments based on the primary segments benefiting from the assets. The total assets of PSG decreased 16% to $13.9 billion as of July 31, 2009 from $16.4 billion as of October 31, 2008 due primarily to a decline in accounts and other receivables and inventory related to the current economic slowdown. The total assets of IPG decreased 19% to $11.5 billion as of July 31, 2009 from $14.2 billion as of October 31, 2008 due primarily to declines in inventory and other receivables. The total assets of HPFS increased 10% to $10.1 billion as of July 31, 2009 from $9.2 billion as of October 31, 2008 due primarily to an increase in financing receivables and assets under operating leases. There have been no material changes in the total assets of HP's other segments.

57



HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements (Continued)

(Unaudited)

Note 17: Segment Information (Continued)

 
  Three months
ended July 31
  Nine months ended
July 31
 
 
  2009   2008(1)   2009   2008(1)  
 
  In millions
 

Net revenue:

                         
     

Infrastructure technology outsourcing

 
$

3,932
 
$

1,393
 
$

11,620
 
$

3,957
 
     

Technology services

    2,404     2,614     7,296     7,640  
     

Application services

    1,384     336     4,478     984  
     

Business process outsourcing

    711     43     2,163     119  
     

Other

    39         147      
                   
 

Services(2)

    8,470     4,386     25,704     12,700  
                   
     

Industry standard servers

    2,262     2,874     6,572     8,680  
     

Storage

    820     1,038     2,551     3,058  
     

Business critical systems

    578     829     1,941     2,603  
                   
 

Enterprise Storage and Servers

    3,660     4,741     11,064     14,341  
                   
     

Business technology optimization

    563     718     1,725     2,006  
     

Other software

    284     368     880     1,066  
                   
 

HP Software

    847     1,086     2,605     3,072  
                   
 

Technology Solutions Group

    12,977     10,213     39,373     30,113  
                   
     

Notebooks

    4,802     5,350     14,406     16,387  
     

Desktops

    3,090     4,163     9,360     12,494  
     

Workstations

    299     463     919     1,415  
     

Handhelds

    32     90     136     281  
     

Other

    209     188     589     539  
                   
 

Personal Systems Group

    8,432     10,254     25,410     31,116  
                   
     

Supplies

    3,949     4,527     12,102     13,664  
     

Commercial hardware

    1,085     1,718     3,517     5,576  
     

Consumer hardware

    626     796     1,938     2,802  
                   
 

Imaging and Printing Group

    5,660     7,041     17,557     22,042  
                   
 

HP Financial Services

    670     680     1,947     2,007  
 

Corporate Investments

    193     271     577     719  
                   
   

Total segments

    27,932     28,459     84,864     85,997  
                   
     

Eliminations of inter-segment net revenue and other

    (481 )   (427 )   (1,262 )   (1,236 )
                   
       

Total HP consolidated net revenue

  $ 27,451   $ 28,032   $ 83,602   $ 84,761  
                   

(1)
Certain fiscal 2009 organizational reclassifications have been reflected retroactively to provide improved visibility and comparability. For each of the quarters in fiscal year 2008, the reclassifications resulted in the transfer of revenue among the Services, HP Software and Imaging and Printing Group financial reporting segments. In addition, revenue was transferred among the business units within the Services, HP Software, Imaging and Printing Group, and Personal Systems Group segments. There was no impact on the previously reported financial results for the Enterprise Storage and Servers, HP Financial Services and Corporate Investments segments.

(2)
Includes the results of EDS, which was acquired on August 26, 2008. The businesses included in the former consulting and integration business unit were divided among the application services and technology services business units and the HP Software segment. The businesses included in the former outsourcing services business unit were divided among the infrastructure technology outsourcing and business process outsourcing business units. The infrastructure technology outsourcing, application services and business process outsourcing business units were added with the technology services business unit, and these four business units now comprise the Services segment.

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Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.

HEWLETT-PACKARD COMPANY AND SUBSIDIARIES

Management's Discussion and Analysis of
Financial Condition and Results of Operations

        The following discussion should be read in conjunction with the Consolidated Condensed Financial Statements and the related notes that appear elsewhere in this document.

OVERVIEW

        We are a leading global provider of products, technologies, software, solutions and services to individual consumers, small- and medium-sized businesses, and large enterprises, including customers in the public and education sectors. Our offerings span:

        We have seven business segments for financial reporting purposes: Services, Enterprise Storage and Servers ("ESS"), HP Software, the Personal Systems Group ("PSG"), the Imaging and Printing Group ("IPG"), HP Financial Services ("HPFS"), and Corporate Investments. Services, ESS and HP Software are reported collectively as a broader Technology Solutions Group ("TSG"). While TSG is not an operating segment, we sometimes provide financial data aggregating the segments within TSG in order to provide a supplementary view of our business.

        The operating framework within which we manage our businesses and which guides our strategies is based on the disciplined management of three business levers: targeted growth, operational efficiency and strategic deployment of capital. Although we have made progress towards our goals in recent periods, there are still many areas in which we believe that we can improve. To implement this operating framework, we are focused on the following initiatives:

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        In September 2008, we announced a restructuring plan to gain efficiencies following the EDS acquisition. The restructuring plan is expected to be implemented over four years from the acquisition date and includes a targeted reduction in headcount of approximately 25,000 employees over that period, with the majority of the reductions occurring by the end of fiscal 2009. Our plan includes replacing a portion of these positions in order to optimize our global footprint. As part of this plan, we recorded $1.8 billion in restructuring costs in the fourth quarter of fiscal 2008, $1.5 billion of which was booked to goodwill and $0.3 billion of which was recorded as a restructuring charge. In May 2009, we announced changes to this plan, primarily related to further consolidation of duplicative real estate facilities associated with the acquisition of EDS. For the nine months ended July 31, 2009 we recorded adjustments to goodwill of $0.3 billion and restructuring expenses of $0.3 billion related to severance and real estate costs for the EDS integration activity. We have approximately $0.9 billion of additional costs to record in future quarters for integration, acquisition-related, real estate, and severance costs. See Note 7 to the Consolidated Condensed Financial Statements in Item 1 for further discussion of restructuring charges.

        In February 2009, we announced additional changes to our compensation and benefit programs in response to the current challenges of the global economy and the resulting effect on our revenues. As part of these changes, we reduced the base pay of most of our U.S. employees effective in the second quarter of fiscal 2009 and will reduce the base pay of many of our non-U.S. employees in future periods in compliance with local laws. Beginning in the second quarter of fiscal 2009, we also capped matching contributions under the HP 401(k) Plan for all U.S. employees at 4% of eligible compensation and will fund these matching contributions quarterly on a discretionary basis based on our financial performance. In addition, we modified our employee stock purchase plan to eliminate the 15% discount applicable to purchases made under the plan effective in the third quarter of fiscal 2009.

        In May 2009, we approved and initiated an additional restructuring plan to structurally change and improve the effectiveness of IPG, PSG and ESS. The restructuring plan will be implemented during the 18-month period ending in October 2010 and includes the targeted elimination of approximately 5,000 positions. See Note 7 to the Consolidated Condensed Financial Statements in Item 1 for further discussion of restructuring charges.

        We are continuing to evaluate our businesses and current market conditions and may consider additional restructuring actions in future periods.

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        In terms of how our execution has translated into financial performance, the following provides an overview of our key financial metrics in the third quarter and first nine months of fiscal 2009:

 
   
  TSG    
   
   
 
 
  HP Consolidated   Services   ESS   HP
Software
  Total   PSG   IPG   HPFS  
 
  In millions, except per share amounts
 

Three Months Ended July 31

                                                 

Net revenue

  $ 27,451   $ 8,470   $ 3,660   $ 847   $ 12,977   $ 8,432   $ 5,660   $ 670  

Year-over-year net revenue % increase (decrease)

    (2.1 )%   93.1 %   (22.8 )%   (22.0 )%   27.1 %   (17.8 )%   (19.6 )%   (1.5 )%

Earnings from operations

  $ 2,174   $ 1,289   $ 356   $ 153   $ 1,798   $ 386   $ 960   $ 53  

Earnings from operations as a % of net revenue

    7.9 %   15.2 %   9.7 %   18.1 %   13.9 %   4.6 %   17.0 %   7.9 %

Net earnings

  $ 1,642                                            

Net earnings per share

                                                 
 

Basic

  $ 0.69                                            
 

Diluted

  $ 0.67                                            

Nine Months Ended July 31

                                                 

Net revenue

  $ 83,602   $ 25,704   $ 11,064   $ 2,605   $ 39,373   $ 25,410   $ 17,557   $ 1,947  

Year-over-year net revenue % increase (decrease)

    (1.4 )%   102.4 %   (22.9 )%   (15.2 )%   30.8 %   (18.3 )%   (20.3 )%   (3.0 )%

Earnings from operations

  $ 6,955   $ 3,584   $ 1,011   $ 450   $ 5,045   $ 1,195   $ 3,139   $ 140  

Earnings from operations as a % of net revenue

    8.3 %   13.9 %   9.1 %   17.3 %   12.8 %   4.7 %   17.9 %   7.2 %

Net earnings

  $ 5,212                                            

Net earnings per share

                                                 
 

Basic

  $ 2.18                                            
 

Diluted

  $ 2.13                                            

        Cash and cash equivalents at July 31, 2009 totaled $13.5 billion, an increase of $3.4 billion from October 31, 2008. The increase for the first nine months of fiscal 2009 was due primarily to $9.9 billion of cash provided from operations, which was partially offset by $3.0 billion of cash used to repurchase common stock, $2.3 billion net investment in property, plant and equipment, and $1.3 billion net payment of our debt.

        We intend the discussion of our financial condition and results of operations that follows to provide information that will assist in understanding our Consolidated Condensed Financial Statements, the changes in certain key items in those financial statements from year to year, and the primary factors that accounted for those changes, as well as how certain accounting principles, policies and estimates affect our Consolidated Condensed Financial Statements.

        The discussion of results of operations at the consolidated level is followed by a more detailed discussion of results of operations by segment.

        For a further discussion of factors that could impact operating results, see the section entitled "Factors That Could Affect Future Results" below.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

        Management's Discussion and Analysis of Financial Condition and Results of Operations is based upon our Consolidated Condensed Financial Statements, which we have prepared in accordance with U.S. generally accepted accounting principles ("GAAP"). The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosure of contingent assets and liabilities. Management bases its estimates on historical experience and on various other assumptions that it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about

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the carrying values of assets and liabilities that are not readily apparent from other sources. Senior management has discussed the development, selection and disclosure of significant estimates with the Audit Committee of our Board of Directors. Actual results may differ from these estimates under different assumptions or conditions.

        An accounting policy is deemed to be critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time the estimate is made, if different estimates reasonably could have been used, or if changes in the estimate that are reasonably likely to occur could materially impact the financial statements. Management believes that there have been no significant changes during the nine months ended July 31, 2009 to the items that we disclosed as our critical accounting policies and estimates in Management's Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the fiscal year ended October 31, 2008. However, we have expanded our critical accounting policy disclosures beginning the first quarter of fiscal 2009 to include the following summary of our existing policy relating to loss contingencies. This summary previously has appeared, and continues to appear, as part of our disclosures regarding litigation and contingencies in Note 16 to the Consolidated Condensed Financial Statements in Item 1.

Loss Contingencies

        We are involved in various lawsuits, claims, investigations and proceedings that arise in the ordinary course of business. In accordance with Statement of Financial Accounting Standards ("SFAS") No. 5, "Accounting for Contingencies", we record a provision for a liability when we believe that it is both probable that a liability has been incurred and the amount can be reasonably estimated. Significant judgment is required to determine both probability and the estimated amount. We review these provisions at least quarterly and adjust these provisions to reflect the impact of negotiations, settlements, rulings, advice of legal counsel, and updated information. Litigation is inherently unpredictable and is subject to significant uncertainties, some of which are beyond our control. Should any of these estimates and assumptions change or prove to have been incorrect, it could have a material impact on our results of operations, financial position and cash flows.

ACCOUNTING PRONOUNCEMENTS

        As previously reported in our 2008 Annual Report on Form 10-K, we recognized the funded status of our benefit plans at October 31, 2007 in accordance with the recognition provisions of SFAS No. 158, "Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans—An Amendment of Financial Accounting Standards Board ("FASB") Statements No. 87, 88, 106 and 132(R)" ("SFAS 158"). In addition to the recognition provisions, SFAS 158 also requires companies to measure the funded status of the plan as of the date of their fiscal year end, effective for fiscal years ending after December 15, 2008. We will adopt the measurement provisions of SFAS 158 effective October 31, 2009 for our pension and post retirement plans. We do not expect the adoption of the measurement provisions of SFAS 158 will have a material effect on our consolidated financial statements.

        In February 2008, the FASB issued FASB Staff Position ("FSP") SFAS 157-2, "Effective Date of FASB Statement No. 157" ("FSP SFAS 157-2"). FSP SFAS 157-2 delays the effective date of SFAS No. 157, "Fair Value Measurements" ("SFAS 157") to fiscal years beginning after November 15, 2008 for all nonfinancial assets and nonfinancial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). As a result of adoption of FSP SFAS 157-2, we will adopt SFAS 157 for all nonfinancial assets and nonfinancial liabilities in the first quarter of fiscal 2010. Although we will continue to evaluate the application of SFAS 157 to nonfinancial assets and nonfinancial liabilities, we do not expect the adoption of SFAS 157 with respect

62



to nonfinancial assets and nonfinancial liabilities will have a material impact on our consolidated financial statements.

        In December 2007, the FASB issued SFAS No. 141 (revised 2007), "Business Combinations" ("SFAS 141(R)"). SFAS 141(R) expands the definition of a business and a business combination; requires recognition of assets acquired, liabilities assumed, and contingent consideration at their fair value on the acquisition date; requires acquisition-related expenses and restructuring costs to be recognized separately from the business combination and expensed as incurred; requires in-process research and development to be capitalized at fair value as an intangible asset; and requires that changes in accounting for deferred tax asset valuation allowances and acquired income tax uncertainties after the measurement period be recognized as a component of provision for taxes. SFAS 141(R) also establishes disclosure requirements to enable the evaluation of the nature and financial effects of the business combination. SFAS 141(R) is effective for fiscal years beginning on or after December 15, 2008 and will be adopted by us in the first quarter of fiscal 2010. We are currently evaluating the potential impact of the adoption of SFAS 141(R) on our consolidated financial statements, which will be largely dependent on the size and nature of the business combinations completed after the adoption of this statement. Among other potential impacts, the adoption of SFAS 141(R) will result in the recognition of certain types of expenses in our results of operations that are currently capitalized pursuant to existing accounting standards.

        In December 2007, the FASB issued SFAS No. 160, "Noncontrolling Interests in Consolidated Financial Statements—an amendment of Accounting Research Bulletin No. 51" ("SFAS 160"). SFAS 160 establishes accounting and reporting standards for ownership interests in subsidiaries held by parties other than the parent, the amount of consolidated net income attributable to the parent and to the noncontrolling interest, changes in a parent's ownership interest, and the valuation of retained noncontrolling equity investments when a subsidiary is deconsolidated. SFAS 160 also establishes disclosure requirements that clearly identify and distinguish between the interests of the parent and the interests of the noncontrolling owners. SFAS 160 is effective for fiscal years beginning after December 15, 2008 and will be adopted by us in the first quarter of fiscal 2010. We do not expect the adoption of SFAS 160 will have a material effect on our consolidated financial statements.

        In May 2008, the FASB issued FSP Accounting Principles Board ("APB") 14-1 "Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement)" ("FSP APB 14-1"). FSP APB 14-1 requires the issuer of certain convertible debt instruments that may be settled in cash (or other assets) on conversion to separately account for the liability (debt) and equity (conversion option) components of the instrument in a manner that reflects the issuer's non-convertible debt borrowing rate. FSP APB 14-1 is effective for fiscal years beginning after December 15, 2008 on a retrospective basis and will be adopted by us in the first quarter of fiscal 2010. We currently do not have any outstanding convertible debt instruments that are subject to the provisions of FSP APB 14-1. However, our U.S. dollar zero-coupon convertible notes that were redeemed in full in March 2008 are subject to the provisions of FSP APB 14-1. As a result, upon adoption of FSP APB 14-1 in the first quarter of fiscal 2010, our fiscal 2008 consolidated results of operations and financial condition will be affected on a retrospective basis. We do not expect the adoption of FSP APB 14-1 will have a material effect on our consolidated financial statements.

        In June 2008, the FASB issued FSP Emerging Issues Task Force ("EITF") 03-6-1, "Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities" ("FSP EITF 03-6-1"). FSP EITF 03-6-1 clarifies that share-based payment awards that entitle their holders to receive nonforfeitable dividends or dividend equivalents before vesting should be considered participating securities. We have granted and expect to continue to grant restricted stock that contain non-forfeitable rights to dividends and such restricted stock will be considered participating securities upon adoption of FSP EITF 03-6-1. As participating securities, we will be required to include these instruments in the calculation of our basic earnings per share ("EPS"), and we will need to calculate

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basic EPS using the "two-class method." Restricted stock is currently included in our dilutive EPS calculation using the treasury stock method. The two-class method of computing EPS is an earnings allocation formula that determines EPS for each class of common stock and participating securities according to dividends declared (or accumulated) and participation rights in undistributed earnings. FSP EITF 03-6-1 is effective for fiscal years beginning after December 15, 2008 on a retrospective basis and will be adopted by us in the first quarter of fiscal 2010. We do not expect the adoption of FSP EITF 03-6-1 will have a material effect on our calculation of basic EPS.

        In November 2008, the FASB ratified EITF Issue No. 08-7, "Accounting for Defensive Intangible Assets" ("EITF 08-7"). EITF 08-7 applies to defensive intangible assets, which are acquired intangible assets that the acquirer does not intend to actively use but intends to hold to prevent its competitors from obtaining access to them. As these assets are separately identifiable, EITF 08-7 requires an acquiring entity to account for defensive intangible assets as a separate unit of accounting. Defensive intangible assets must be recognized initially at fair value in accordance with SFAS 141(R) and SFAS 157 and amortized over the benefit period. EITF 08-7 is effective for defensive intangible assets acquired in fiscal years beginning on or after December 15, 2008 and will be adopted by us in the first quarter of fiscal 2010. We are currently evaluating the potential impact of the adoption of EITF 08-7 on our consolidated financial statements, which will be largely dependent on the nature of the business combinations completed after the adoption of this statement.

        In December 2008, the FASB issued FSP SFAS 132(R)-1, "Employer's Disclosures about Postretirement Benefit Plan Assets" ("FSP SFAS 132(R)-1"). FSP SFAS 132(R)-1 requires additional disclosures about assets held in an employer's defined benefit pension or other postretirement plan. FSP SFAS 132(R)-1 is effective for fiscal years ending after December 15, 2009 and will be adopted by us in the first quarter of fiscal 2010. We will present the required disclosures in the prescribed format on a prospective basis upon adoption. FSP SFAS 132(R)-1 will only affect the notes to our consolidated financial statements.

        In April 2009, the FASB issued FSP SFAS 141(R)-1, "Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies" ("FSP SFAS 141(R)-1"). FSP SFAS 141(R)-1 addresses application issues on initial recognition and measurement, subsequent measurement and accounting, and disclosure of assets and liabilities arising from contingencies in a business combination. FSP SFAS 141(R)-1 is effective for assets or liabilities arising from contingencies in business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008 and will be adopted by us in the first quarter of fiscal 2010. We are evaluating the impact the adoption of FSP SFAS 141(R)-1 will have on our consolidated financial statements, which will be largely dependent on the size and nature of the business combinations completed after the adoption of this statement.

        In June 2009, the FASB issued SFAS No. 166, "Accounting for Transfers of Financial Assets—an amendment of FASB Statement No. 140" ("SFAS 166"). The most significant amendments resulting from SFAS 166 consist of the removal of the concept of a qualifying special-purpose entity from FASB Statement No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities," and, for qualifying special-purpose entities, the removal of the exception from applying FASB Interpretation No. 46 (revised December 2003), "Consolidation of Variable Interest Entities—an interpretation of Accounting Research Bulletin No. 51" ("FIN 46(R)"). SFAS 166 is effective as of the beginning of each reporting entity's first annual reporting period that begins after November 15, 2009, for interim periods within that first annual reporting period and for interim and annual reporting periods thereafter. Earlier application is prohibited. SFAS 166 will be adopted by us in the first quarter of fiscal 2011. We do not expect the adoption of SFAS 166 will have a material effect on our consolidated financial statements.

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        In June 2009, the FASB issued SFAS No. 167, "Amendments to FASB Interpretation No. 46(R)" ("SFAS 167"). SFAS 167 amends FIN 46(R) to eliminate the quantitative approach previously required for determining the primary beneficiary of a variable interest entity and to require ongoing qualitative reassessments of whether an enterprise is the primary beneficiary of a variable interest entity. SFAS 167 also amends FIN 46(R) to require additional disclosures about an enterprise's involvement in variable interest entities. SFAS 167 is effective as of the beginning of each reporting entity's first annual reporting period that begins after November 15, 2009, for interim periods within that first annual reporting period, and for interim and annual reporting periods thereafter. Earlier application is prohibited. SFAS 167 will be adopted by us in the first quarter of fiscal 2011. We are currently evaluating the impact the adoption of SFAS 167 will have on our consolidated financial statements.

        In June 2009, the FASB issued SFAS No. 168, "The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles—a replacement of FASB Statement No. 162" ("SFAS 168"). SFAS 168 establishes the FASB Accounting Standards Codification ("ASC") as the source of authoritative accounting principles recognized by the FASB. Following this Statement, the FASB will issue new standards in the form of Accounting Standards Updates ("ASUs"). SFAS 168 is effective for financial statements issued for interim and annual periods ending after September 15, 2009 and therefore is effective for us in the fourth quarter of fiscal 2009. The issuance of SFAS 168 will not change GAAP and therefore the adoption of SFAS 168 will only affect the specific references to GAAP literature in the notes to our consolidated financial statements.

        In August 2009, the FASB issued Accounting Standards Update No. 2009-05, "Measuring Liabilities at Fair Value" ("ASU 2009-05"). This update provides amendments to ASC Topic 820, "Fair Value Measurements and Disclosure" for the fair value measurement of liabilities. We will adopt ASU 2009-05 for all financial liabilities in the fourth quarter of fiscal 2009. We will adopt ASU 2009-05 for all non-financial liabilities in the first quarter of fiscal 2010 when we fully adopt SFAS 157. Although we will continue to evaluate the application of SFAS 157 and this update for our non-financial liabilities, we do not expect the adoption of ASU 2009-05 will have a material effect on our consolidated financial statements.

        During the first nine months of fiscal 2009, we adopted the following accounting standards, none of which had a material effect on our consolidated financial statements during the period or at the end of the period:

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        See Note 8 to the Consolidated Condensed Financial Statements in Item 1, which is incorporated herein by reference, for the effect of applying SFAS 157, FSP SFAS 157-1, FSP SFAS 157-2, FSP SFAS 157-3, FSP SFAS 157-4 and SFAS 159.

        See Note 9 to the Consolidated Condensed Financial Statements in Item 1, which is incorporated herein by reference, for the effect of applying SFAS 161.

RESULTS OF OPERATIONS

        Results of operations in dollars and as a percentage of net revenue were as follows:

 
  Three months ended July 31   Nine months ended July 31  
 
  2009   2008   2009   2008  
 
  Dollars   % of
Revenue
  Dollars   % of
Revenue
  Dollars   % of
Revenue
  Dollars   % of
Revenue
 
 
  In millions
 

Net revenue

  $ 27,451     100.0 % $ 28,032     100.0 % $ 83,602     100.0 % $ 84,761     100.0 %

Cost of sales(1)

    20,936     76.3 %   21,197 (2)   75.6 %   63,924     76.5 %   63,846 (2)   75.3 %
                                   

Gross profit

    6,515     23.7 %   6,835     24.4 %   19,678     23.5 %   20,915     24.7 %

Research and development

    667     2.4 %   895     3.2 %   2,115     2.5 %   2,701     3.2 %

Selling, general and administrative

    2,874     10.5 %   3,193 (2)   11.4 %   8,647     10.3 %   9,820 (2)   11.6 %

Amortization of purchased intangible assets

    379     1.4 %   213     0.8 %   1,171     1.5 %   630     0.8 %

In-process research and development charges

                    6         13      

Restructuring

    362     1.3 %   5         602     0.7 %   19      

Acquisition-related charges

    59     0.2 %           182     0.2 %        
                                   

Earnings from operations

    2,174     7.9 %   2,529     9.0 %   6,955     8.3 %   7,732     9.1 %

Interest and other, net

    (177 )   (0.6 )%   23     0.1 %   (589 )   (0.7 )%   98     0.1 %
                                   

Earnings before taxes

    1,997     7.3 %   2,552     9.1 %   6,366     7.6 %   7,830     9.2 %

Provision for taxes

    355     1.3 %   525     1.9 %   1,154     1.4 %   1,613     1.9 %
                                   

Net earnings

  $ 1,642     6.0 % $ 2,027     7.2 % $ 5,212     6.2 % $ 6,217     7.3 %
                                   

(1)
Cost of products, cost of services and financing interest.

(2)
Certain pursuit-related costs previously reported as Cost of sales have been realigned retroactively to Selling, general and administrative expenses due to organizational realignments.

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Net Revenue

        The components of the weighted net revenue decline as compared to the prior-year periods were as follows:

 
  Three months ended
July 31, 2009
  Nine months ended
July 31, 2009
 
 
  Percentage Points
 

Personal Systems Group

    (6.5 )   (6.7 )

Imaging and Printing Group

    (4.9 )   (5.3 )

Enterprise Storage and Servers

    (3.9 )   (3.9 )

HP Software

    (0.9 )   (0.5 )

Corporate Investments/Other

    (0.5 )   (0.2 )

HP Financial Services

        (0.1 )

Services

    14.6     15.3  
           

Total HP

    (2.1 )   (1.4 )
           

        For the three and nine months ended July 31, 2009, the global slowdown of IT and consumer spending continued to impact our segments. Net revenue decreased 2.1% for the three months ended July 31, 2009 from the prior-year comparable period (increased 3.5% on a constant currency basis) and decreased 1.4% for the first nine months of fiscal 2009 from the prior-year comparable period (increased 3.5% on a constant currency basis). For both periods, the Services segment contributed favorably to the total HP net revenue change primarily as a result of the EDS acquisition. U.S. net revenue increased 16% to $10.3 billion for the third quarter of fiscal 2009, while net revenue from outside of the United States decreased 10% to $17.1 billion. U.S. net revenue increased 16% to $30.3 billion for the first nine months of fiscal 2009, while net revenue from outside of the United States decreased 9% to $53.3 billion. The increase in U.S. net revenue for both periods was primarily a result of the acquisition of EDS.

        The PSG net revenue decline in the three and nine months ended July 31, 2009 was primarily the result of the overall slowdown in the global economy. For both periods, PSG average selling prices ("ASPs") declined in both consumer clients and commercial clients. PSG unit volumes, however, increased 2% for the third quarter of fiscal 2009 and were essentially flat for the first nine months of fiscal 2009, as compared to the same periods in fiscal 2008.

        For the three and nine months ended July 31, 2009, IPG experienced net revenue declines in the commercial and consumer hardware business units and the supplies business unit. Unit volume declines across each of the business units were a result of the softness in both the business and consumer demand environments.

        The net revenue decline in ESS for the three and nine months ended July 31, 2009 was driven by declines in our industry standard servers ("ISS"), business critical systems and storage business units. The revenue declines were due primarily to the economic slowdown and the overall weak demand environment. ISS was the largest business unit contributor to the decline in ESS revenue. ISS unit volumes declined in the third quarter and first nine months of fiscal 2009. ISS average unit prices also declined for the first nine months of fiscal 2009 but stabilized for the third quarter of fiscal 2009 when compared to the prior-year periods.

        For the three and nine months ended July 31, 2009, HP Software experienced net revenue declines in both the Business Technology Optimization ("BTO") and the other software business unit due primarily to revenue declines in licenses and services. Support revenue remained flat for the third quarter of fiscal 2009 and increased for the first nine months of fiscal 2009 as a result of renewal rate increases.

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        Net revenue in Corporate Investments and Other declined in the third quarter and first nine months of fiscal 2009 due primarily to a decline in sales of network infrastructure products as a result of a continued slowdown in the networking market.

        The HPFS net revenue decrease for the three and nine months ended July 31, 2009 was due to unfavorable currency movements.

        The net revenue increase in Services in the three and nine months ended July 31, 2009 was due primarily to revenue increases in infrastructure technology outsourcing, application services and business process outsourcing as a result of our acquisition of EDS in the fourth quarter of fiscal 2008, the effect of which was partially offset by unfavorable currency impacts and lower add-on business. Net revenue in technology services declined for both periods due primarily to unfavorable currency impacts and weak economic conditions, the effect of which was partially offset by growth in extended warranty.

Gross Margin

        The gross margin table below identifies each segment's weighted contribution to the change in the total company gross profit from the prior year comparable periods. The weighted components of the gross margin decline as compared to the prior-year periods were as follows:

 
  Three months ended
July 31, 2009
  Nine months ended
July 31, 2009
 
 
  Percentage Points
 

Enterprise Storage and Servers

    (0.7 )   (1.0 )

HP Software

    (0.2 )   (0.1 )

Services

    (0.1 )   (0.5 )

Corporate Investments/Other

    (0.1 )    

HP Financial Services

    (0.1 )    

Imaging and Printing Group

    0.1      

Personal Systems Group

    0.4     0.4  
           

Total HP

    (0.7 )   (1.2 )
           

        Total company gross margin decreased for both the third quarter and first nine months of fiscal 2009 as compared to the same periods in the prior year.

        The decrease in ESS gross margin for the three and nine months ended July 31, 2009 was due primarily to competitive pricing in all of the business units as well as product mix shifts.

        The improvements in HP Software gross margin for the three and nine months ended July 31, 2009 resulted primarily from a favorable support revenue mix and services margin increases, the effect of which was partially offset by a lower license mix.

        Services gross margin increased slightly for the three months ended July 31, 2009, due to improved contract cost management, the effect of which was partially offset by the mix effect from the acquisition of the EDS business, which has lower gross margins. Services gross margin decreased slightly for the nine months ended July 31, 2009, attributable to the mix effect from the acquisition of EDS, the effect of which was partially offset by service cost improvements.

        Gross margin in Corporate Investments and Other declined in the three and nine months ended July 31, 2009 as a result of a unit volume decline in the sale of network infrastructure products and competitive pricing.

        The HPFS gross margin decline for the three and nine months ended July 31, 2009 was due primarily to unfavorable currency impacts, higher bad debt expenses, and lower margins for

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end-of-lease, remarketing and buyout activities, the effect of which was partially offset by higher portfolio margins.

        The increases in IPG gross margin for the three and nine months ended July 31, 2009 resulted primarily from an increase in the supplies mix and supplies pricing, the effect of which was partially offset by hardware margin declines.

        For the three and nine months ended July 31, 2009, PSG contributed positively to the overall company gross margin decline due to the mix effect of its gross margin representing a smaller component of our total gross margin from levels experienced in the prior-year periods. For the third quarter and first nine months of fiscal 2009, PSG gross margin itself declined resulting primarily from ASPs declining at a faster pace than component costs and a mix shift towards lower-end products, the effect of which was partially offset by lower warranty and supply chain costs combined with improvements in the option attach rate.

Operating Expenses

        Total research and development ("R&D") expense decreased in the third quarter and first nine months of fiscal 2009 as compared to the prior-year periods due primarily to effective cost controls as well as favorable currency impacts related to the movement of the dollar against the euro, the effect of which was partially offset by additional expenses related to Services. Additionally, the decrease in R&D expense in the first nine months of fiscal 2009 was also due to lower compensation expense. For the three and nine months ended July 31, 2009, R&D expense as a percentage of net revenue decreased for IPG and ESS, remained approximately flat for PSG, and increased slightly for HP Software and Services.

        Selling, general and administrative ("SG&A") expense decreased in the three and nine months ended July 31, 2009 from the corresponding prior-year periods, due primarily to favorable currency impacts related to the movement of the dollar against the euro, lower commissions as well as effective cost management, the effect of which was partially offset by additional expenses related to the EDS acquisition. The decrease in SG&A expense in the first nine months of fiscal 2009 was also partially offset by higher bad debt expense. For the three and nine months ended July 31, 2009, SG&A expense as a percentage of net revenue remained approximately flat for ESS and PSG and decreased for each of our other major segments.

        The increase in amortization expense for the three and nine months ended July 31, 2009 as compared to the same periods in the prior year was due primarily to amortization expenses related to the EDS acquisition.

        For the three months ended July 31, 2009, we had no in-process research and development ("IPR&D") charges. For the nine months ended July 31, 2009 we recorded $6 million of IPR&D charges. For the nine months ended July 31, 2008, we recorded $13 million of IPR&D charges. IPR&D charges are incurred in connection with our acquisitions.

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        For the three months ended July 31, 2009, we recorded $362 million in restructuring charges. This charge included $67 million of severance and facility costs related to our fiscal 2008 restructuring plan and $295 million of severance costs associated with our fiscal 2009 restructuring plan, which was initiated in the third quarter of fiscal 2009. Restructuring charges for the nine months ended July 31, 2009 were $602 million, which included $310 million of severance and facility costs related to our fiscal 2008 restructuring plan, $295 million of severance cost related to our fiscal 2009 restructuring plan, and a reduction of $3 million related to adjustments to other restructuring plans.

        Restructuring charges for the three and nine months ended July 31, 2008 were $5 million and $19 million, respectively. These charges were due primarily to adjustments for severance and facility costs associated with restructuring programs implemented in fiscal years 2005, 2003, 2002 and 2001, as well as those related to our acquisition of Mercury Interactive Corporation in November 2006.

        As part of our ongoing business operations, we incurred workforce rebalancing charges for severance and related costs within certain business segments during the first nine months of fiscal 2009. Workforce rebalancing activities are considered part of normal operations as we continue to optimize our cost structure. Workforce rebalancing costs are included in our business segment results, and we expect to incur additional workforce rebalancing costs in the future.

        In the three and nine months ended July 31, 2009, we recorded acquisition-related charges of $59 million and $182 million, respectively. These charges were related primarily to co