Marie Myers
Chief Financial Officer at HP
Thank you, and good afternoon, everyone. As Enrique said, we continue to focus on what we can control and deliver on the commitments we have made. In Q1, we remain disciplined in rigorously managing our costs and investing strategically while delivering on our outlook. However, our results were impacted by ongoing soft demand.
Macroeconomic challenges persisted and corporate budget tightening began to affect large enterprise demand this quarter. We are adapting quickly to the current environment, but see continued opportunity to drive further improvement in our cost structure and operational execution.
Let me give you a closer look at the details. Net revenue was $13.8 billion in the quarter, down 19% nominally and 15% in constant currency, driven by the declines across each of our regions. In constant currency, Americas declined 16%, EMEA declined 15%, and APJ declined 13%. Gross margin was 20.3% in the quarter, up 0.4 points year-on-year, primarily due to improved commodities and favorable print mix, partially offset by competitive pricing, including currency.
Non-GAAP operating expenses were $1.7 billion or 12.5% of revenue. The decrease in operating expenses was driven primarily by lower variable compensation, rigorous cost management and favorable currency impacts, partially offset by the Poly acquisition. Non-GAAP operating profit was $1.1 billion, down 28.3%. Non-GAAP net OI&E expense was $183 million, up primarily due to higher interest expense driven by an increase in both debt outstanding and interest rates.
Non-GAAP diluted net earnings per share decreased $0.35 or 32% to $0.75, with a diluted share count of approximately 1 billion shares. Non-GAAP diluted net earnings per share excludes a net expense totaling $262 million, primarily related to restructuring and other charges, amortization of intangibles, acquisition and divestiture-related charges, debt extinguishment costs and other tax adjustments, partially offset by nonoperating retirement-related credits. As a result, Q1 GAAP diluted net earnings per share was $0.49.
Now, let's turn to segment performance. Let me start with pointing out that we have changed our revenue reporting presentation for Personal Systems this quarter. We are now reporting revenue by business capability, consumer, and commercial versus our previous disclosure by product category, which better aligns with how we think about and manage the business.
The composition of our consumer and commercial business capabilities remains consistent with what we have outlined in the past, with the exception of Poly, which is now included in commercial. Also, note that Q1 reflects the first full quarter of Poly results.
In Q1, Personal Systems revenue was $9.2 billion, down 24% or 20% in constant currency, with FX headwinds as expected. Total units were down 28% with declines in both consumer and commercial, driven by soft demand and a tough prior year compare. And while commercial constituted about 60% of our units, it represented approximately 70% of our revenue mix for the quarter.
We made solid progress on reducing our channel inventory levels sequentially. However, levels remained elevated for us and across the industry. With that, combined with improved supply availability, pricing competition intensified incrementally in the quarter. Our backlog remains consistent with pre-pandemic levels and still skews favorably towards commercial higher-value units.
Drilling into the details. Consumer revenue was down 36% and Commercial was down 18%. Lower volumes, FX, and increased promotional pricing were again headwinds. Within Commercial, these were partially offset by favorable mix. During calendar Q4, we improved our go-to-market execution and grew our overall market share sequentially. We also increased our market share in high-value, more profitable segments, including commercial, desktops and notebooks. Our focus continues to be on driving profitable share growth, especially in the premium segment of our consumer and commercial markets.
Personal Systems delivered almost $500 million of operating profit with operating margins of 5.4%. Our margin declined 2.4 points year-over-year, primarily due to currency headwinds, increased promotional pricing and favorable prior period R&D partner funding. This was partially offset by Poly contributions and lower costs, including variable compensation and commodity costs.
In Print, our results reflect our focus on execution and growing our NPV positive units as well as the strength of our portfolio as we navigate the supply chain environment. In Q1, total Print revenue was $4.6 billion, down 5% nominally or 2% in constant currency. The decline was driven mostly by lower supplies revenue and currency. Hardware revenue was relatively flat, driven by favorable pricing actions in Commercial, partially offset by unfavorable mix and competitive pricing actions.
Industrial Graphics and services revenue declined slightly, reflecting emerging demand weakness in the enterprise space. Total hardware units increased 2% as component availability and logistics constraints improved sequentially, augmented by better-than-expected China demand. We continued to make solid progress reducing our backlog and are largely back to our pre-pandemic level.
By customer segment, Commercial revenue increased 2% or 5% in constant currency, with units down 8%. Consumer revenue was down 3% or up 1% in constant currency with units up 3%. Consumer printer demand remained soft in the Americas and EMEA regions, driving incremental promotional activity as supply constraints continue to ease. Commercial hardware demand remained tepid due to both the slow and uneven pace at which the return to office is progressing and enterprise budget tightening.
Supplies revenue was $2.9 billion, declining 7% nominally and 6% in constant currency. The decline was driven primarily by further normalization in home printing and a gradual recovery in Commercial. This was partially offset by favorable pricing actions and continued market share gains in ink and toner. Print operating profit was $870 million, essentially flat year-on-year, and operating margin was 18.9%.
Operating margin increased 0.8 points, driven by pricing actions and cost improvements, partially offset by promotional pricing of favorable currency and higher commodity costs. The cost improvements were largely due to lower variable comp, expense management, and transformation savings.
Now, let me turn to our Future Ready efforts. We saw strong progress on our plan in Q1 and are on track to deliver at least 40% of our targeted $1.4 billion in gross annual run rate structural cost savings by the end of FY '23. In Personal Systems, we are targeting structural savings by streamlining our portfolio to better target customer needs.
We are increasing leverage in our product and engineering operations by standardizing on fewer platforms to reduce component complexity. We expect these initiatives to reduce duplication and improve our agility and response time to shifting market needs. We also took actions to optimize costs in our corporate business where we drove significant savings. We continue to optimize and reduce structural costs across our core businesses, particularly in office print and in our supplies, supply chain, including headcount reductions.
In addition, we continue to see benefits from our investments to transform our customer support and services organization enhancing our capabilities to provide a more digital enabled customer-centric support experience. We continue digitizing our customer support engagement assets using AI-based interactive voice response technology. We expect this initiative will help automate our processes to deliver a more seamless and connected support experience.
Lastly, in January, as part of our Future Ready target to reduce employee headcount by 4,000 to 6,000, we announced a Voluntary Early Retirement Program in the United States. The offer provided eligible employees the opportunity to retire from HP with enhanced benefits. More than 900 participants have opted into the plan with the majority expected to exit during Q2. I continue to be confident in our ability to drive operating cost reductions consistent with our Future Ready goals, enabling investments in our key growth areas.
Now, let me move to cash flow and capital allocation. Q1 cash flow from operations was nominally negative and free cash flow was an outflow of $0.2 billion, in line with our expectations. Our results were impacted by normal seasonality associated with the timing of variable comp payments as well as restructuring charges and lower volumes in Personal Systems.
Additionally, our free cash flow was favorably impacted by the timing of receipts and payments related to our factoring program. This is expected to be net neutral to our full-year free cash flow.
The cash conversion cycle was minus 22 days in the quarter. This increased seven days sequentially, primarily due to an increase in strategic buys driving up DOI and an unfavorable business mix impacting both DOI and DPO. While we decreased our inventory $0.3 billion sequentially in Q1, we have more work to better align our inventory to our business volumes through operational excellence. We will, however, continue to take advantage of economic opportunities like strategic buys, or more seed transit, both of which would result in carrying more inventory.
In Q1, we returned approximately $360 million to shareholders, including $100 million in share repurchases and $259 million in cash dividends. We finished the quarter towards the high end of our target leverage range. Consistent with our disciplined financial management and our strategy to prudently manage our leverage profile and maintain our credit rating in the current challenging environment, we limited our Q1 share repurchases to an amount needed to offset share dilution.
Looking forward to Q2 and the rest of FY '23, we expect the macro and demand environment will remain challenged and that our customer end markets will remain competitive. We remain focused on what we can control as we navigate these difficult market conditions. We will continue to rigorously manage costs, streamline operations and improve our performance as the year progresses while continuing to invest in our growth businesses.
In particular, keep the following in mind related to our Q2 and overall financial outlook. Given the challenging macro environment, we are modeling multiple scenarios based on several assumptions. For FY '23, we continue to see a wide range of potential outcomes, which are reflected in our outlook ranges I will discuss shortly. Consistent with the view we shared in November, we are not expecting a significant economic recovery during fiscal 2023.
We will continue to focus on driving structural cost savings and efficiencies in our business consistent with the progress we made in Q1 regarding our Future Ready transformation strategy. We expect these cost savings will scale into the back half of the year.
Given recent weakness in the U.S. dollar, we now expect currency to be about a three percentage year-over-year headwind for FY '23. Regarding OI&E expense, we now expect it will be approximately $0.7 billion for FY '23 based on Q1 as a run rate for the year.
We continue to expect free cash flow to be in the range of $3 billion to $3.5 billion for FY '23, with the second half of FY '23 stronger than the first. As a reminder, our FY '23 free cash flow outlook includes approximately $400 million of restructuring cash outflows.
Turning to Personal Systems. We now expect the overall PC market unit TAM to decline by a high teens percent in FY '23. Specifically, for Q2, we expect Personal Systems revenue will remain under pressure near term and decline sequentially by a high single digit. We expect revenue to improve over the course of the back half of the year as elevated channel inventory levels are expected to normalize by early fiscal Q3.
We expect to continue to drive improved mix shifts toward high-value, more profitable units and services and expect this will help partially offset the headwinds we've discussed today. We expect Personal Systems margins to be in the lower half of our 5% to 7% long-term range in Q2 as commodities and logistics costs improved in the quarter. But given elevated industry and HP channel inventory levels, pricing continues to be very competitive.
For FY '23, we expect margins to be solidly in our target range driven by the gradual improvement in PC revenue in the back half of the year and increasing Future Ready transformation savings. In Print, we expect consumer demand softness will persist and macro uncertainty and corporate budgeting tightening will remain headwinds for commercial. Disciplined cost management and further normalization and mix as office gradually improves should help to partially offset these trends.
With regard to Print supply chain, similar to what we saw in Q1, we expect component shortages will continue to improve, but persist into at least Q2 particularly for office hardware, providing continued support for favorable pricing. Regarding supplies, we expect Q2 revenue in constant currency to decline by a high single digit versus our previous expectation to be down closer to double digits. Given its variability, we do not believe inter-quarter growth is indicative of our long-term supplies growth.
We continue to expect revenue to decline in FY '23 by low to mid-single digits in constant currency. We now expect Print margins to be above the high end of our 16% to 18% range for Q2, driven by continued hardware constraints. We expect FY '23 margins also will be above the high end of our range, driven by disciplined pricing, continued progress on rebalancing our system profitability, and rigorous cost management, including Future Ready transformation savings.
Taking these considerations into account, we are providing the following outlook for Q2 and fiscal year 2023. We expect second quarter non-GAAP diluted net earnings per share to be in the range of $0.73 to $0.83 and second quarter GAAP diluted net earnings per share to be in the range of $0.40 to $0.50. We expect FY '23 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.
We continue to make meaningful progress against both our short and long-term strategic priorities in a demanding environment. I am confident we are taking the right actions and making the right decisions to create long-term value for our shareholders.
I'll stop here so we could open the line for your questions.
