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Posted 5/24/2004
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3 reasons Dell shares are sliding
The computer giants margins are getting squeezed, its inventories are growing and it's financing too much of its business. That suggests weakness elsewhere in technology.
By Bill Fleckenstein
Dell released its first-quarter results after the bell on May 13, but what the company had to say is far from "yesterday's news." Rather, there are ramifications for a fair bit of the tech tape. First of all, one reason for Dell's (DELL, news, msgs) sell-off the following day -- despite "beating the number" -- is that its margins were a little less than people had expected. That just proves that, in a price war, nobody wins. Given the excess capacity and somewhat muted demand, the reality of this price war with other computer makers is not surprising.
'Just in time' to see inventory climb
Another curious fact was that Dell's inventory increased 30% sequentially and was up even more year-over-year. You might ask yourself, Why is Dell carrying inventory, since it's supposed to be the just-in-time master? I believe it, too, got caught up in the fears of potential chip shortages and double/triple ordering that have created a massive inventory buildup across the contract manufacturers, companies like Cisco Systems (CSCO, news, msgs) and chip vendors like Intel (INTC, news, msgs) and Texas Instruments (TXN, news, msgs). This over-ordering to get ahead of demand is also what's given these chip companies the nice numbers they've shown for the last few quarters. But it is not sustainable.
Interestingly, enterprise growth at Dell was the slowest in seven quarters. Folks who've been paying attention ought to scratch their heads because we've been hearing about a surge (I have not believed this) in corporate IT spending. That does not jibe with what Dell had to say.
Is there a smell at Dell?
Lastly, and more Dell-specific, its other current assets were up 37% sequentially and 67% year-over-year. Folks who watched Gateway (GTW, news, msgs) disintegrate will note that similar occurrences happened there. Of course, Gateway was doing many other things that hastened its path to disaster. It was not just the bulge in other current assets from financing customers.
This is not to say that Dell is headed for the same ending as Gateway. It is not. But if you look at how the line items have grown, these "other assets" suggest that the company is doing an awful lot of financing. The balance sheet makes no sense to me (which it has not for some time), since Dell basically ought to be a cash-and-carry business. In short, Dell was not a pretty picture, and that's why its down more than 6% since May 11, despite winning at make-the-number.
The data convene to strip tech's sheen
A couple of other companies buttress the above points. BEA Systems (BEAS, news, msgs) was hit the same day as Dell on investor disappointment in its own results. (The shares are down 25% since May 11.) Its news also has implications for corporate IT spending. Sharing in the pain was Merix (MERX, news, msgs), a contract manufacturer that reported cutbacks from Cisco, after previously having received expedited order requests.
When you put a summation sign under this, you see that we're starting to get the data I've been suggesting for a while about potential problems in the chip arena. I would expect that the tech sector will be an increasingly hostile place, even more so than the tape overall.
Market momentum: in memoriam?
Last Wednesday struck me as a very important day for the stock market. Usually when we see a turn (witness the few days prior, as well as that morning), it "sticks." But the bulls -- so accustomed to building on momentum once they turn the tape -- were unable to prevail that Wednesday, making the lows in the Standard & Poors 500 ($INX) from two weeks ago all the more important.
The stock market these days is far more a creature of momentum than it is an evaluator of bargains. As Warren Buffett paraphrased Ben Graham, in the short run, the market is a voting machine. In the long run, it's a weighing machine. The advent of momentum trading and hedge funds over the last few years has produced an environment where that is now truer than ever. In any case, when we take out the recent lows in the S&P 500, whether in the next few days or weeks, you can assume that fireworks will commence to the downside, which will be a catalyst with lots of negative ramifications.
The downside in metals may have been reached
The ramifications, of course, will be positive for the metals, which of late have shouldered more than their share of brutality. I believe that the downside has finally been seen, however, and that the path of least resistance might be up (minus a few hiccups along the way). Silver may have looked like it wanted to "trade at zero" while in the $5.50 range, but I think the chance of it trading materially below $5.50 for any length of time is quite unlikely.
Tangentially, for anyone who thinks this market is manipulated, please click here to read a letter from the Commodity Futures Trading Commission (CFTC), with which I agree on this issue.
Turning to propitious news for precious-metal lovers, the Senate last week passed a bill to lower the capital-gains tax on silver, gold, platinum and palladium, bringing it in line with equities. (The bill is now in front of the House.)
As for the much-discussed gold ETF, which has yet to appear, stories were apparently circulating about some kind of interagency battle between the CFTC and the Securities and Exchange Commission. But it looks like whatever the hang-up is rests with the SEC, and perhaps is related to tax questions. Barclays, meanwhile, is now in registration to try to launch a gold ETF. It will be interesting to see what gets done first.
Further, when in New York last week to give a speech (it is posted on my subscription site, fleckensteincapital.com), I heard from metals dealers whom I respect that Asian central banks have been buying gold. Whether that turns out to be a powerful trend remains to be seen, since we don't yet have enough data points. But I do find this news interesting, in that before you can have a flood, you've got to have a trickle.
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 Fleckensteincapital.com 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. At the time of publication, he was short Dell, Cisco Systems, Intel and Texas Instruments. He was long Intel puts. The views and opinions expressed in Bill Fleckenstein's columns are his own and not necessarily those of MSN Money
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