Chief Financial Officer at HP
Thank you, and good afternoon, everyone. Our Q4 results were impacted by many of the same macroeconomic challenges we highlighted last quarter, including a significant slowdown in consumer demand, FX and inflation. That said, we are adapted quickly to the current environment and have demonstrated disciplined cost management to deliver solid results to finish out the year. In addition, we returned significant capital to our shareholders while successfully closing our acquisition of Poly. We continue to believe in the long-term opportunities across our business and are confident we have the right strategy and portfolio of assets to drive long-term value creation. Today, I will cover our Q4 results and a recap of FY '22 followed by details about the cost transformation component of Future Ready, building upon the foundation we laid in our previous program and then finish with our outlook for Q1 and FY '23.
Turning to our Q4 results. Net revenue was $14.8 billion in the quarter, down 11% nominally and 8% in constant currency. Gross margin was 18.4% in the quarter, down 1.2 points year-on-year driven by FX and increased pricing competition, particularly in PS. Non-GAAP operating expenses were $1.6 billion or 10.7% of revenue, down 18% year-on-year. In Q4, we installed further rigor in our cost management with opex down sequentially, excluding Poly. Year-on-year, we reduced our opex spend by nearly $350 million by prioritizing our spend and reducing variable compensation, while also capturing additional structural cost savings under our transformation plan. At the same time, we made and expect to continue to make prudent and targeted investments where we anticipate significant opportunity to drive growth, including our key growth areas, which Enrique outlined earlier.
Non-GAAP operating profit was $1.1 billion, down 15%. Non-GAAP net OI&E expense was $128 million for the quarter, up sequentially, largely as a result of our acquisition of Poly. Non-GAAP diluted net earnings per share decreased 10% to $0.85 with a diluted share count of approximately 1 billion shares. Non-GAAP diluted net earnings per share excludes net expenses totaling $855 million, primarily related to acquisition-related charges, amortization of intangibles, tax adjustments and restructuring and other charges, partially offset by non-operating retirement-related credits. As a result, Q4 GAAP diluted net earnings per share was zero, mostly due to one-time non-cash tax expenses.
Now, let's turn to segment performance. In Q4, Personal Systems revenue was $10.3 billion, down 13% or 9% in constant currency. This compares to the 3-point headwind we had expected. PS revenue includes just two months of Poly's results following the successful completion of the acquisition in late August. Total units were down 21% on tough compares. We also saw pricing competition increased sequentially due to high channel inventory across the industry. And while supply availability has improved significantly, constraints persisted in some pockets of the business.
Drilling into the details, Commercial revenue was down 6% or 2% in constant currency. Consumer revenue was down 25% or 21% in constant currency, with FX remaining a significant headwind this quarter. As an example, currency was an approximate 6-point headwind to our Personal Systems business in EMEA this quarter, increasing 1 percentage point sequentially. By product category, revenue was down 23% for notebooks, up 1% for desktops and up 9% for workstations. We saw a strong recovery in gaming sequentially with revenue up solid double digits due to better product availability. We have cleared most of our outstanding backlog and finished the quarter at a level consistent with pre-pandemic levels and with most of the remaining backlog reflecting higher value units.
Personal Systems delivered $458 million of operating profit with operating margins of 4.5%. We ended the quarter below our long-term range for operating margins, largely as a result of particular weakness in EMEA consumer revenue. Operating margin declined 2 points year-over-year due to currency and increased promotional activity given elevated industry channel inventory levels, especially in the consumer business. These headwinds were partially offset by mix, lower commodity costs and variable compensation. We are pleased with the strong execution by the Poly team. They delivered just above breakeven operating profit and exceeded expectations for the quarter.
In Print, our results reflect our focus on execution and the breadth of our portfolio as we navigated the highly dynamic environment. In Q4, total Print revenue was $4.5 billion, down 7% nominally or 6% in constant currency, driven by lower supplies revenue and lower home hardware units combined with increased pricing competition in the home business. This was partially offset by higher office hardware units and ASPs and growth in industrial graphics and Instant Ink services. Total hardware units declined 3% driven largely by continued supply constraints for certain IC components and lower consumer demand. We have taken mitigating actions that are beginning to yield improvements in our supply availability at a pace consistent with our plans. While this has enabled us to make progress on reducing our backlog, we still expect Print hardware constraints to extend into FY '23.
By customer segment, Commercial revenue increased 1% or 5% in constant currency, with units up 5%. Consumer revenue was down 7% or 4% in constant currency with units down 4%. Office continued with its gradual recovery, while pricing remained disciplined even as supply constraints eased incrementally. Home hardware demand softened further sequentially, particularly in the EMEA and Americas regions impacting ASPs as competitive pricing increased during the quarter. In Q4, Commercial recovery remained slow due to the gradual and uneven pace at which the return to office is progressing. There were pockets of strength with Commercial hardware units, up 5%. And in graphics, our Indigo business closed its largest deal to date for 50 digital presses with ePAC, a leader in the flexible packaging market.
Supplies revenue of $2.7 billion declined just under 10% in constant currency, slightly better-than-expected as demand weakness appeared to stabilize in the quarter. The decline was driven primarily by continued consumer weakness, particularly in the EMEA region and the slow recovery in the office, partially offset by favorable pricing actions and continued market share gains in ink and toner. Supplies finished FY '22 down nearly 7% on a constant currency basis. Adjusting for approximate 1-point headwind related to the exit of our Russia business, the year-on-year decline in supplies came in consistent with our original guidance range of a decline of low- to mid-single digits.
Print operating profit increased $73 million to $903 million, up 9%, yielding an exceptional operating margin of 19.9%. Operating margin increased 2.9 points year-on-year, driven by favorable overall pricing and opex management, including lower variable compensation, partially offset by unfavorable mix and higher commodity costs.
Now, turning to cash flow and capital allocation in Q4. Q4 cash flow from operations and free cash flow was $1.9 billion and $1.8 billion, respectively, exceeding our guidance for the quarter. The cash conversion cycle was minus 29 days in the quarter, flat sequentially as lower days payable outstanding and higher days sales outstanding was offset by the decrease in days of inventory. In Q4, we returned approximately $1 billion to shareholders. This included $750 million in share repurchases and $249 million in cash dividends.
At the end of FY '22, we successfully finished our transformation plan, generating better-than-expected structural cost savings. Our strong performance and our value plan over the past three years, including our capital return and broader capital allocation priorities were made possible in part by the transformation journey we have been on. In 2019, we launched a three-year plan to unlock significant value and become a leaner, simpler and more digitally-enabled Company. We took decisive actions aligned to the principles of our value creation plan to become closer to our customers by simplifying our operations and replatforming the Company. In total, our transformation program delivered growth annualized run rate savings of over $1.3 billion and reduced our headcount by approximately 7,700 as expected.
As part of our simplification journey, we changed our operating model, moving to one commercial organization, and created strong centers of excellence to drive efficiency and faster decision-making. In addition, we optimized our real estate footprint, creating efficient digital workspaces as we transitioned to a hybrid work model. We also made significant progress in optimizing our manufacturing footprint and continuing to enhance resiliency while reducing our cost structure. Digital replatforming was another defining enabler of our transformation efforts. We built a new digital backbone for the Company with the deployment of one ERP system, creating the ability to deploy additional tools and capabilities. In addition, this new platform provides the foundation upon which we can drive incremental cost savings, as well as build new businesses with different business models as we move into FY '23 with the launch of our Future Ready transformation plan.
We are now launching cost action efforts as part of that Future Ready program, continuing to the next phase of our transformation. We'll continue to take actions to reduce structural costs across COGS and opex to drive efficiencies while protecting the investments necessary to accelerate our transformation, ensuring we are well positioned to drive long-term growth. This program is expected to run for three years, and we expect to generate at least $1.4 billion in gross annual run rate structural cost savings by the end of FY '25. We expect at least 40% of the run rate savings or approximately $560 million to be achieved by the end of FY '23. We have line of sight to these savings, and we also have a good funnel of additional cost savings opportunities that we are betting to help us exceed these targets. The total expected restructuring charge is approximately $1 billion, which includes approximately $200 million in non-cash charges in FY '23. We anticipate approximately $600 million of the total charges to be in FY '23 with the rest split roughly equally in FY '24 and FY '25.
As Enrique mentioned, we take workforce reductions very seriously and with the utmost care, but they remain critical to the long-term health of HP. In total, we expect to reduce headcount by 4,000 to 6,000 over the next three years. In addition to labor-related restructuring charges of roughly $700 million, we expect additional non-labor charges related to IT, real estate and other corporate charges. We anticipate the gross savings from this next phase of transformation will partially offset the challenging macro in the near-term and incremental investments in growth opportunities we discussed earlier. In summary, these actions will help enable us to build a stronger HP.
Looking forward to our Q1 and FY '23 outlook. We continue to believe in the long-term opportunities and growth in our end markets, including our key growth areas and our strategy to create value for shareholders over time. Given the current macro environment, we do expect near-term volatility, in particular, keep the following in mind related to Q1 and FY '23 financial outlook. Given the challenging macro environment driven by the headwinds I've described, we are modeling multiple scenarios based on several assumptions. For FY '23, we see a wide range of potential outcomes, which are reflected in the outlook ranges we are providing today. Consistent with our Q4 results and ongoing strategy, we will continue to rigorously manage our opex spend while continuing to prioritize investments where we see opportunities for growth. This is made possible in part by the decisive cost actions we are announcing today.
We expect currency to be about an approximate 5% year-over-year headwind in Q1 and 5% for FY '23, reflecting the current strength of the U.S. dollar. In Personal Systems, we expect the overall PC market to see an approximate 10-point unit decline versus FY '22. Many of the recent challenges we have seen in FY '22 will likely continue into FY '23, including softer demand in both consumer and commercial and higher channel inventory levels across the industry. We anticipate these factors will put continued pressure on overall pricing at least through the first half of '23. We expect Personal Systems unit mix to continue to improve as we focus on higher-value categories, including commercial premium and hybrid work solutions. We expect Personal Systems margins to be below the low end of our 5% to 7% target range through at least the first half of FY '23 driven by the high normalization of industry channel inventory levels. And then improve into the second half as channel inventory normalizes and our transformation-related cost actions start to more meaningfully impact our cost structure. And regarding Q1 Personal Systems revenue, we expect to be down mid-single digits sequentially.
In Print, in terms of the overall print market sizing, we expect it to be down approximately 3% year-on-year driven by the challenging macro environment and slower-than-expected return to the office. In the office market, we continue to expect the market sizing to be approximately 80% of our pre-pandemic projections. In home, we expect the market to be down in '23 versus the exceptional performance during COVID, but still above our pre-pandemic projections. We expect continued softness in consumer demand and favorable pricing in commercial units, offsetting some normalization in consumer pricing, particularly in the first half of '23. In terms of our Print hardware supply chain, we expect constraints strengths to continue, particularly in office hardware, at least through first half of FY '23. We expect Print margins for FY '23 to be at the high end of our 16% to 18% range, driven by the resiliency of our portfolio and disciplined pricing and cost management including our transformation efforts to reduce our Print fixed cost structure, as Enrique mentioned.
And finally, regarding supplies revenue, we expect to decline low- to mid-single digits in FY '23 in constant currency, consistent with our long-term outlook. For FY '23, we expect to be within that range in aggregate. But for the first half of '23, we expect to be at similar levels to Q4 given the macro environment and tough compares.
We expect free cash flow to be in the range of $3 billion to $3.5 billion, which includes approximately $400 million of restructuring cash charges.
From a seasonality perspective, we expect the second half to be stronger than the first, largely consistent with our net earnings combined with the fact that our first quarter is typically lower given the timing of prior year variable comp. Furthermore, normal, quarterly sequential seasonality does not apply for FY '23, given the dynamic macro environment. But we do expect some improvement in our revenue trajectory in the second half of '23. That said, we expect our key growth businesses collectively will continue to grow double digits organically in FY '23 as we continue to invest in innovation and adjacent market opportunities.
With regard to opex, we expect to rigorously manage our overall cost structure as part of our transformation, particularly in our core businesses, where we expect opex to be down year-on-year. However, including Poly, we do expect total opex to be up year-on-year. In addition, for FY '23, we expect OI&E expense will be approximately $0.5 billion, consistent with our Q4 exit run rate.
Moving to capital allocation. We are not making any changes to our capital return framework. As we have discussed in the past, we are committed to our strategy of returning 100% of free cash flow to shareholders over time as long as our gross leverage ratio remains under 2 times, and there aren't any better return opportunities in order to maintain our credit rating. Given the challenging current environment, consistent with our disciplined financial management, we expect share repurchases will be modest near-term based on our FY '23 outlook today.
Lastly, we announced today that we are raising our annual dividend by 5% to $1.05 per share, reflecting confidence in our long-term outlook for the business. We have raised our dividend every year since separation in late 2015. Taking these considerations into account, we are providing the following outlook: we expect first quarter non-GAAP diluted net earnings per share to be in the range of $0.70 to $0.80 and first quarter GAAP diluted net earnings per share to be in the range of $0.47 to $0.57; we expect full year non-GAAP diluted net earnings per share to be in the range of $3.20 to $3.60; and FY '23 GAAP diluted net earnings per share to be in the range of $2.22 to $2.62. For FY '23, we expect our free cash flow to be in the range of $3 billion to $3.5 billion, which is net of about $400 million in restructuring cash outflows.
Before we open for Q&A, I want to leave you with the following thoughts. First, as part of our Future Ready plan, we are taking clear and decisive actions, which includes aggressive structural cost reductions as we have just shared. Second, we are adapting to these challenging market conditions with our Future Ready cost transformation program, which includes plans to drive significant cost savings. Third, we're confident in the long-term growth opportunities and are capitalizing on these opportunities by investing to become a more digital company with a more growth-oriented portfolio. Fourth, we have an experienced management team with a proven track record in up and down markets. We deliver on our financial commitments. We are disciplined in our capital allocation and committed to a strong balance sheet. In short, we are 2 in our commitment to deliver long-term value creation. We are building a stronger HP, and I look forward to sharing our progress with you at FY '23.
Operator, please open the line so we can take your questions.