) which has been trying to diversify its business to be
less dependent on PC sales, reported a 11% y-o-y drop in
net revenues for Q3 as revenues came in at $1.37 billion. The weak
PC market was blamed for the 47% y-o-y drop in net income, reported
at $475 million. Spending on PC's was low on both the consumer and
enterprise front with the consumer PC sales declining 23% y-o-y to
$2.5 billion and enterprise sales declining 8% to $4.2 billion.
Dell, which is now concentrating on mid and high-end PC's,
experienced the brunt of this downturn as weak macro-economic
conditions have users, especially in the emerging markets, shift to
low end PC's - a segment that Dell is steering clear of. The Q3
results are lower than expected and the market has punished the
stock, sending it lower by nearly 7% to $8.9
Dell's enterprise solutions revenue rose 3% to $4.8
billion while servers and networking revenue climbed 11% y-o-y to
$2.3 billion. Storage products revenue dropped 16% y-o-y to $386
million and software and peripherals revenue fell 11 y-o-y t0 $2.25
billion%. The drop in PC sales is expected to be helped by the
Windows 8 release in the current quarter, and the company issued a
2%-5% y-o-y growth in revenue for Q4 and says it is still on track
to hit the minimum EPS guidance of $1.70.
The company's decision to steer clear of low-end PC's, has led
to loss in market share in terms of units sold to players like
Lenovo and Acer Group. This is not entirely bad news as it is
likely to improve margins in the long terms and make its business
less sensitive to the slowing PC market and allow it to concentrate
on the more lucrative services business.
See our full analysis on Dell
Changing Business Model And Weak PC Sales Leading To
Short Term Pain
Dell's decision to focus on mid and high-end consumer products
may help margins in the long run, but it is currently losing market
share in terms of units to players such as Lenovo and Acer Group.
This business is likely to pick up on the strength of hybrid
tablet-notebooks and Ultrabooks in the long term, but the company
will show slow PC sale growth in the short term. According to
Gartner, Dell owns about 10% of the PC market as of Q3, down nearly
14% y-o-y from 11.2% same time last year.
Some of the business model changes are already paying off with
the servers and networking business doing well in this quarter.
According to our analysis, PC hardware now constitutes nearly 27%
percent of its value, while services accounts for nearly 26% of its
value. We expect the acquisitions made in the services space to be
the main revenue drivers for Dell in the long term.
Changes To Our Model
Our valuation is contingent of its performance in the services
business and is based on the long term potential of its high margin
businesses. We detailed our previous analysis
, but based on the current quarter filings, we update some revenue
and cost drivers below.
1) Updated PC Market Share
According to the Dell's historical PC share report, its market
share in the desktop PC space has fallen from 13% to 12% currently
and the portable PC market share has stayed flat at 10%. We have
updated our analysis to reflect these numbers. The overall PC
market shrunk 8% y-o-y as well. We expect the PC market share to
remain at these lower levels as the company will not go after low
margin- high volume PC's and will continue to concentrate on mid
and high-end PC's. We expect the long term market share to fall to
5% for the desktop and notebook business.
2) Downside From Previous Estimate Driven by Increasing
Dell has entered into a whole slew of businesses via
acquisitions. Dell is targeting $5 billion in software sales in
coming years and it plans to achieve this by targeting key areas
such as network security, cloud storage, systems management,
business analytics, virtualization and thin client systems. The
company expects security and systems management to be a billion
dollar business in the next few years. Efforts to build up these
businesses is likely to lead to increasing costs and according
to the three quarter run-rate, SG&A expenses have
increased nearly 10% on a y-o-y basis, and we currently estimate it
to be around 15% of revenues. This is the most significant change
for Dell's cost drivers and is primarily responsible for the
3) Dell Services Business Growing Slower Than
The services business is a high margin business with margins nearly
twice that of the product business. We estimate that the services
business margin is about 34% and is potentially a high growth
business as well. The business however shrunk by 1% this quarter
and this has led to a lowered growth estimate in the short
4) Lower PC, Desktop and Server Gross Margins
We estimate that the gross margins will drop to 18% by the end
of the forecast period from its current level of 21% due to
increasing commoditization of the hardware business.
We currently have a $12.12 Trefis price estimate for Dell, which
is nearly 50% above the current market price.
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