Scott - That article points up why I think DELL is playing a dangerous game. DELL is clearly out to absolutely lock up the US market, both for PCs and for volume servers. They are doing that by price policy which has cut their net profit to 5% overall, and at the expense of negative earnings growth. DELL management has said that this is not a scorched earth policy - it is the way they intend to do business going forward.
What are the benefits? Well, being the biggest player in the most visible market brings a number of benefits - not least being preferential treatment from everyone in the industy who wants to get traction in the PC market. Also, DELL can use that revenue base to finance their efforts to bring up their weaker areas - for example, their sales in Latin America, Europe outside of the UK, and the Asia-Pacific region. They are not in the top 3 in any of those markets, so there is still lots of opportunity if they can figure out how to get the same traction they have gotten in the US, or anything close to it.
The downside is obvious and has been a part of my "glass half empty" commentary for a while. There is not anything in the base strategy which will grow earnings, and without earnings growth the stock is not likely to move up. Since the competition is not likely to exit the business, and in fact will have to continue to become more efficient just to stay in the game, DELL can not easily reduce the pricing pressure without losing market share. CPQ, IBM and HP have other product lines which can make up their overall earnings - CPQ makes only 5% of its profit from PCs - so they don't have to be as efficient as DELL to pose a pretty effective threat if DELL backs off and tries to increase margin.
So the question I keep asking is where is the complementary strategy to build new business which can allow DELL to maintain the PC pressure while still increasing earnings? The obvious answer, and the one DELL has been pursuing for 3 years, is servers and storage. But after some initial gains, the percentage of revenue from those products has been steady at about 20% for several years. Worse yet, the gross and net margins from those areas are about the same as from the PC segment - in other words, DELL can not use that product line to subsidize the PC business unless they can increase sales of higher margin products and also grow the business.
So I guess I think the pricing policy by itself is risky but is being managed well. The real question is what are they doing to develop a long term plan to build shareholder value - market share alone is not helpful if it does not translate to profit. |
