From Individual Investor May 20, 1999, an article by Analyst: Will Frankenhoff
Updated on 5/19/99 with Dell at $39.50
Recommended 11/16/98 at $31.60
On Tuesday, Dell posted results that have caused many
investors to question the company's near-term outlook.
We don't share that concern. While we acknowledge that
the shares might come under pressure in the near term due
to concerns about Dell's lofty valuation (55 times 1999
estimates), we believe that Dell remains the best play
among PC makers and that its continued market share
gains will pay off further down the road.
At current levels, shares are selling at a 22% premium to
its earning growth of 45%, which is not unusual for an
industry dominator. Microsoft (Nasdaq: MSFT -
Quotes, News, Boards), for example trades at a 47%
premium to its earnings growth rate. Coca-Cola
(NYSE:KO - Quotes, News, Boards) is expected to
boost profits 15% annually over the next five years, but its
shares trade for nearly 40 times 2000 earnings estimates.
Dell posted sales of $5.5 billion for the first fiscal quarter
ended April 30, 1999, an increase of 41% over the prior
year's period driven by a 54% increase in sales to
consumers and small business customers and a 48% gain
in the Asia-Pacific region. Earnings of $0.16 per diluted
share were inline with estimates and represented a 45%
increase over last year's quarter as a slight decline in gross
margins (down 80 basis points to 21.5%) was not enough
to offset the solid growth in revenue.
This margin decline was expected as Dell aggressively
slashed pricing to increase its market share. According to
IDC estimates, Dell captured 10% of the worldwide PC
market place, up from 7.8% in last year's quarter while
increasing its share of the U.S. market to 14.8%, up from
11.8% in Q1 1998.
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Equally impressive was Dell's growth from its enterprise
systems- made up of servers, workstations and storage
products- which jumped 97% on a quarter/quarter
comparison to $885.9 million, or 16% of sales. Dell's
Poweredge servers were shipped at rates three times the
industry average which translated into a 3 percentage
point gain in market share. Dell was ranked third in
worldwide server market share during the period and
number two in the U.S. We view this as a plus as servers
tend to be higher margin products than PCs.
We also like the fact that Dell continues to perfect its
direct business model, a fact highlighted by the $18
million/day in sales over the Internet which contributed
30% of total revenue in the quarter. As Dell heads
towards its stated goal of deriving 50% of total revenue
from Internet sales, the company should be able to
leverage its SG&A expense. This trend is evidenced by
the fact that SG&A as a percentage of sales fell to 9.2%,
down from 9.9% in the year-ago period and 9.5% in Q4
1998. Further upside could come as the company
continues its expansion into using the Internet for customer
support, procurement and relationship management.
As always, Dell's balance sheet is the envy of the industry.
The company ended the quarter with $4 billion in cash &
equivalents, up from $3.2 billion in Q4 as the company
generated more than $1 billion in operating cash. Days in
inventory (DOI) remained sequentially flat at 6 days and
DSOs were similarly flat at 35 days. It should also be
noted that Dell repurchased approximately 18 million
shares of its stock during the quarter.
We understand why investors have knocked Dell down
after the announcement since Dell has a history of beating
estimates and growing both bottom and top line growth at
greater than 50%. Well, those days look to be over, at
least on a consistent basis, but the company is still capable
of growth in the 40%-45% range and that's fine by us. As
the company continues to gain market share, leverages its
industry leading Internet business, and grows enterprise
systems revenue as a percentage of total sales, we believe
that Dell will continue to prosper. We maintain our buy
recommendation.
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