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Dell can't recapture its glory days
The PC maker is grappling with lower margins and customer aversion to its bare-bones computer offers.
By Robert Walberg
When thinking of Dell (DELL, news, msgs), the song Glory Days by Bruce Springsteen comes to mind. Listening to the conference call you can just hear management trying to recapture a little of the glory of -- but margins keep slipping away, leaving investors with nothing but boring stories of glory days.
It took a little longer than the wink of a young girls eye, but Dells invincibility in the PC industry has all but vanished over the past couple of years. Hurt by consumer demand for ever cheaper PCs, slowing growth in its core U.S. market and rejuvenated competition from Hewlett Packard (HPQ, news, msgs), Apple Computer (AAPL, news, msgs) and others, Dell has routinely come up short on earnings day.
Thursday was no different. Revenues may have eclipsed Street estimates in the fourth quarter, as did earnings. But an extra week of sales, lower tax rates and a smaller share base due to an aggressive buyback program were largely responsible for the market-beating numbers. Considering the overall strength in the sector, Wall Street was hoping for cleaner, stronger numbers -- the kind Dell used to deliver all the time.
Enough with the bait-and-switch
Dell is a victim of its own aggressive pricing strategy. It is virtually impossible to go a day without seeing an online ad for a cheap, stripped-down Dell computer. This caused two problems for the company.
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First, many consumers snap up the cheap computers, leaving Dell with very little profit. Second, and of almost more concern in the long term, there are many people who are fed up with the companys bait-and-switch tactics. Most of us dont want a bare-bones computer any more than we want the stripped-down car we see advertised in the Saturday paper. By the time we count up all our add-ons, the cheap Dell computer now costs hundreds more, bringing it right in line with the competition.
In addition to being ticked off by the extra money they are now spending, consumers also have to spend a bunch of extra time reading through all the specs and making what they hope are wise hardware, software and services upgrades. In virtually the same time, and with a lot less thought, consumers can drive to a local Best Buy (BBY, news, msgs), Circuit City (CC, news, msgs) or CDW (CDW, news, msgs) and buy an as-advertised PC by one of Dells many competitors.
Though the company continues to win share in every region of the globe, it is doing so at a high cost. Margins are being squeezed, as evidenced by the fact that gross margins in the fourth quarter of 17.8% were 0.7% below Street estimates and narrowly below year-ago levels. Customer satisfaction with the brand is also taking a hit, at least anecdotally. Dell might be winning the battle for market share, but it is losing the war of enhancing shareholder value.
Global growth eases pain of lowered estimates
The stock should remain on the defensive over the near term, given that management again guided future estimates lower. Due to seasonal factors, difficult pricing conditions and fierce competition, Dell sees fiscal first-quarter sales of $14.2 billion to $14.6 billion and earnings of 39 to 41 cents per share. The Street was looking for earnings, excluding items, of 42 cents per share on revenues of $14.8 billion. While the scope of the miss is relatively modest, the pattern of disappointment is increasingly alarming.
But not all the news was bad. Dell experienced strong growth in its server, notebook and enhanced services segments. International sales were also impressive, especially in Europe, where revenues rose by 18%, and Asia where revenues climbed 21%. Overall, sales outside the U.S. now make up 43% of total revenues, up from 40% in the year-ago period. The companys balance sheet also remains strong, as Dell generated nearly $1.6 billion in cash from operations and ended the quarter with roughly $11.7 billion in cash and marketable securities.
Dell is also aware of its margin problems on the consumer side of the business and is working to shift the focus away from low-end models to higher-end, higher-cost computers such as its XPS line targeted at gamers. According to management, these models sold briskly. But given the flat-line performance in the desktop segment last quarter, growth is not coming fast enough.
Clearly, theres lots of work to do if the company wants to return to the growth it achieved during its glory days. Fortunately, Dells valuations are low relative to its peers, which should limit the stocks additional downside risk. But until Dell restores margin growth, wins back customer loyalty, bolsters printer sales and starts consistently hitting its sales and earnings targets, look for the stock to continue to trail the market.
At the time of publication, Robert Walberg did not own or control shares of any companies mentioned in this column.
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