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Posted 8/22/2005
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Dell can't boot up demand
What good is being the PC champ in a don't-gotta-have-it world? With the market saturated, the PC giant may not be able to grow as quickly as many investors have come to expect.
By Bill Fleckenstein
Let's go to school on Dell, shall we? From its recent earnings report, there are lessons we can take away, some specific to Dell and others that can be applied elsewhere.
While Dell (DELL, news, msgs) said its revenues were up 15% from a year ago, receivables outpaced revenue growth once again, up 23%.
Also, "other" assets grew 12% from the first quarter -- and 33% from a year ago. "Other" is a vague line item that continues to bulge (now $2.7 billion) in a way that looks like trouble to me -- especially once you realize that cash and short-term investments, plus accounts receivables, add up to $1 billion less than current liabilities. I continue to believe that bombs are lurking on the balance sheet, and they will come back at some point to haunt Dell. But that is not this week's business.
Dell's woebegone price come-on
Dell suffered average-selling-price pressure, which has been a problem for other big vendors like Nokia (NOK, news, msgs) and Cisco Systems (CSCO, news, msgs). But the real problem for Dell and Gateway (GTW, news, msgs), a competitor that admitted to the same sales-price pressures on its second-quarter earnings call last week, is saturation. Dell is now too big to grow at rates which people have come to expect.
I believe Dell met that point a while ago, but it has been able to mask the issue by stretching to finance people (who perhaps shouldn't have been financed) and by stretching in other ways to make earnings estimates.
Related news and commentary on MSN Money
Here is an example that typifies the saturation issue: On its Aug. 11 conference call, Dell management claimed that the company was "more aggressive than we needed to be," and they said the aggressiveness was what really hurt margins. The company was trying to suggest that had it not made a pricing mistake -- attempting to sell too many boxes too cheaply at $299 or $399 -- it would have been fine.
But that explanation makes no sense, because if demand was really there at those lower price points, one would have seen a revenue number much bigger than had been expected, though with the attendant earnings pressure.
For the PC market, I think there are important points to take away from Dell (and ditto from Gateway):
- Lowering its average sales price did not create oodles of demand.
- It experienced margin pressure.
- It built a bunch of inventory, which would imply potential problems for some of its suppliers if end demand does not pick up.
The ramifications of earnings reports from Dell, Gateway, Cisco, Nokia and others (which will unfold prospectively) are as follows: The suppliers to these companies will be pressured to lower their prices, and margin pressure will flow downhill, if you will.
AMD reaps . . .
There will be exceptions, of course, and one place might be at Advanced Micro Devices (AMD, news, msgs), where an analysis of Dell's news looks to be very constructive. My reasoning:
Dell's slowest area of growth was servers, up only 9% year over year. Though the dead fish did not bother to ask why, I think it's rather clear: Dell doesn't offer an AMD solution in the server arena. Other companies that do have seen their products sell very well -- as we saw with last Tuesday's report from Hewlett-Packard (HPQ, news, msgs).
I also think it's safe to say that the Hewlett-Packard/Compaq line has been a beneficiary of AMD's chips. (Compaq's low-end personal computer, powered by an AMD processor, is far superior to the low-end box recently offered by Dell, which lacks useful items like speakers, a DVD player, security software, etc.) Mr. Market seemed to come to the same conclusion last Wednesday, as AMD finished up more than 6.1%, whereas chip giant Intel (INTC, news, msgs) was only up about 0.35%.
That, for me, was the big information in Hewlett's earnings results -- corroborating the view of the trade journals that AMD's parts are gaining traction at the expense of Intel.
Intel weeps
These pressures at the low end (cheap PCs) and high end (servers) are going to drive Dell toward Advanced Micro Devices, perhaps sometime soon. I believe that will benefit AMD and really hurt Intel. I believe that, while Dell may be in trouble, Intel is cooked. AMD has a better solution, and Intel can no longer play hardball to try to stop defections. The most visible defection will be Dell, when it's forced to start selling AMD products. (Dell's earnings report suggests that will be sooner, rather than later.)
It's also important to understand that this pressure has occurred while the consumer is still relatively strong. One can only imagine the kinds of pressure we're going to see when the consumer rolls over after the housing ATM conks out.
In any case, the problems at Intel have been a long time in building. I happen to think we're at an inflection point, which is why I sold more Intel shares short recently and am in the process of aggressively shorting the chip maker. But that is what works for me. I am not advocating that others do as I do.
Bill Fleckenstein is president of Fleckenstein Capital, which manages a hedge fund based in Seattle. He also writes a daily Market Rap column on his Fleckenstein Capital Web site. His investment positions can change at any time. Under no circumstances does the information in this column represent a recommendation to buy, sell or hold any security. The views and opinions expressed in Bill Fleckenstein's columns are his own and not necessarily those of CNBC or MSN Money. At the time of publication, Bill Fleckenstein was long Advanced Micro Devices, Dell puts and Intel puts and short Intel.
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