Kemble, [Great Reading Below!!!] I thought it might be great to revisit an interview with Michael Dell in the March 1998 issue of The Red Herring. It is enlightening to read Michael's views from 6 months ago. It is of particular interest to all of us given your rather "robust" estimates for Dell over the next 5 years. (I have marked some noteworthy statements in bold.) See Below:
THE DELL CURVE
Michael Dell says cheap PCs, network computers, and increased direct-sales competition won't stunt Dell Computer's growth.
By Alex Gove
The Red Herring magazine
March 1998
Dell Computer has been on a roll. In the last five years, the PC manufacturer's stock (Nasdaq: DELL) has risen nearly 1,500 percent. Dell more than doubled its earnings per share from 1996 to 1997, and the research firm First Call projects that Dell's EPS for fiscal 1998 (ended January) will be $2.56, an 84 percent rise over 1997.
Some industry watchers wonder if Dell can continue its rapid growth. After hitting $103.88 on October 16, Dell's stock quickly slid to the mid-$80s, where it remains at our press time. One reason is the collapse of the Asian stock markets, which will almost certainly reduce the demand for computers in a region that had been viewed as a growth market (although Dell has also benefited from cheaper Asian components; see "Stock Split"). As a result of the Asian flu, BancAmerica Robertson Stephens now predicts that the industry's unit sales growth for this year will be just 13 percent, down a full 5 percent from the firm's estimate before the crash.
Since Dell is a heavily traded tech stock--the average daily volume is 10.5 million shares--whose value many investors monitor for clues to the overall health of the technology industry, insiders fear that a drop in Dell could deal an even larger blow to the tech sector than Oracle's December flameout did. (Oracle stock [Nasdaq: ORCL] lost nearly 28.6 percent of its value on December 8.)
Everything's fine
In a recent interview, however, Michael Dell did not look at all worried about his company's future. The longest-reigning CEO of a major U.S. computer manufacturer, Mr. Dell is surprisingly engaging. (We generally wouldn't say no to anyone who owns 16 percent of a $28 billion company, but we almost had to fight him off in his attempt to supply us with something to drink.) In Mr. Dell's opinion, the company has only begun to grow. Dell, he claims, has enhanced its original direct-sales approach by adding sales over the Internet, as well as leasing, asset management, and other services.
Foremost among these is Internet sales. In a much-publicized speech at Internet World in December, Mr. Dell said that his company expects to conduct half of its customer transactions over the Web by 2000. Dell, according to its CEO, is averaging more than $3 million in Internet sales a day and has seen several $6 million days. "We have the perfect market," Mr. Dell told The Red Herring. "Virtually all of our customers are connected in some way, shape, or form. We're built to order, so the process of choosing different configurations and obtaining product support is more convenient. And buying over the Internet reduces costs for both the buyer and the seller."
Mr. Dell talks about future markets in terms of "vectors." One vector is the range of Dell products. He explains that Dell has evolved from selling desktops to offering a full product line that includes notebook computers, servers, workstations, and storage products. Another vector for Mr. Dell is customers. Dell first targeted small companies before moving on to midsize and large companies, the government, and schools. The final vector to which Mr. Dell refers is regions. He sees North America, Europe, Asia, and Latin America as separate and distinct growth opportunities. "We're generating $12 billion a year," he concludes, "but it's like 12 $1 billion businesses--each one very nicely profitable--that are growing at between 40 and 140 percent per year. That's what we're managing."
Hard sell
The problem is that other manufacturers are trying to manage Dell's vectors, too. Although Phil Rueppel of the investment bank BT Alex. Brown says that it is "hard to find any weaknesses" in Dell, he does note that competition is going to increase as more manufacturers move to the direct-selling model.
To cope with these challenges, Dell has reduced costs. The company has succeeded in cutting its inventory and increasing its gross profit margins. (Gross margins for the third quarter of 1998 rose to 22.5 percent, a 0.2 percent increase over the third quarter of the previous year.) Mr. Dell does not worry much about manufacturers who have tried to copy his company's success. "I look at our direct-selling model in a couple of pieces as well as all together," he says. He points out that forecasting demand for direct orders is much more difficult than supplying computers to retail channels: configurations vary, and demand can change dramatically from day to day.
Mr. Dell says the biggest problem for competitors that want to imitate his company's methods is that they are prisoners of history--they must sever relationships with the very dealers that have been responsible for their sales in the past. "These dealers have spent half of their lives convincing customers that they should buy a particular manufacturer's product, and now the manufacturer is going to sell direct? The dealers are going to spend however long it takes to convince the customer that the manufacturer's product is no good," Mr. Dell says. He thinks many companies will not be able to manage this painful transition: "Go ask the typical computer dealer what has happened to the indirect sale of products when a manufacturer starts to sell direct."
Mr. Dell says he's heard reports that NEC has lost $10 in indirect sales for every dollar it has made through direct sales. He also seems unconcerned by Apple Computer's recent embrace of direct sales. To Steve Jobs's vow that he and Apple are "coming to get" Dell, Mr. Dell responds, "If you list all of the problems Apple has, we would be the last one on the list."
Danger: falling prices
Still, Mr. Dell acknowledges that his company is facing increasing price pressure. In the past Dell has focused almost exclusively on businesses (it sells more than 90 percent of its systems to business and government customers), which typically buy expensive machines. But in the last year the PC market has been flooded by sub-$1,000 PCs aimed at first-time buyers. Although these cheaper machines are sold largely to home users, computer manufacturers like Dell--whose average machine sells for an industry-high $2,700--fear they will drag down prices on business machines.
To counter this trend, in the last year Dell has targeted the consumer market and in particular what Mr. Dell calls "experienced consumers." As Mr. Dell sees it, experienced buyers are more predictable than first-time users, and they typically purchase more expensive systems. There are also more of them. "The good thing about first-time buyers is that you can only be a first-time buyer once," he says. "Our theory is that eventually there will be no first-time buyers left." Even though Dell's consumer PCs cost more than $1,000, Mr. Dell seems to want to counter the impression that his machines are pricey, a sentiment that could hurt Dell's corporate sales. Asked if sub-$1,000 PCs are a bad business, he laughs, "It's not as good as a $3,000 or $10,000 PC business." He adds that the behavior of new users is hard to gauge: "Now that PCs are $1,000, are people going to buy three per house instead of one per house? Or will they buy a $2,000 PC and a $1,000 PC instead of just one $3,000 PC?"
Magic box
Dell has also hedged against cheaper PCs by establishing standards for Net PCs. Net PCs are fixed-function network computers that banks or airlines can use for chores like monitoring accounts or processing tickets. Mr. Dell says that large companies are fed up with the flexibility of PCs for end users, who find it all too easy to install files and change settings: "Let's say you take a CD-ROM, throw it in your machine, and screw it up. Then your machine stops working, so you call your network administrator and say, 'Hey, my machine's stopped working.' The guy asks you what you did to it, and you say, 'I didn't do anything.'" Mr. Dell smirks. "Yeah, right."
Mr. Dell concedes that Net PCs could eat into his business. "But," he says, "there's an offset, because you need a broad product line to be successful, which means you have to sell the servers, too. So if on the first generation we sell a $2,000 machine but not the server, and on the second generation we sell a $1,200 machine and the server, it works out all right." In the third quarter of fiscal 1998, Dell's server sales were more than four times sales for the same quarter of 1997.
Despite Dell's Net PC initiative, however, Mr. Dell does not think much of network computers for consumers. "I've seen Oracle's commercials, where a kid from the other side of the railroad tracks uses Larry Ellison's $299 machine," he says. "But I haven't seen any of those machines on the market." Calling the notion of a network computer "misguided," Mr. Dell goes on to list the shortcomings of NCs: "The first misconception is that you can take data that is intended for computer monitors and display it on televisions. You're not going to be able to read it. So now you have to buy a data-grade monitor, which adds to the cost. What have you saved? Problem No. 2 is the assumption that broadband access is going to be available to all of these guys from the other side of the railroad tracks. Well, that's just not the case."
Mr. Dell argues that the only way network computer users can do without hard disks is by maintaining a high-speed connection at all times. "If you're in a grocery store and your kid sees the Hercules CD-ROM from Disney, and you want to buy this thing and put it in your PC, that's 600 MB of data. Try pumping that stuff over a 28.8-kbps line or a 56-kbps line. Forget it. It's not going to work."
Although Mr. Dell does not think NCs will compete with his company's products any time soon, he acknowledges that "the issue of cost/performance improvement is sort of a given in our business." The year ahead will test how well his company can respond not only to rapidly changing market conditions but also to a cutthroat gang of copycats. Dell has a great deal of momentum in the marketplace, but even the slightest stumble could cause Wall Street to cash out of a stock that has already been a big winner for most investors. And that could be very bad news indeed for the tech markets.
DELL ON THE OS
Michael Dell says end users just don't care about Microsoft's monopoly.
The Herring: Do you think computers are user-friendly? What do you think must happen to make computers more accessible to people?
Dell: You need a much more intuitive interface with voice commands that understand the intricacies of human thought, as opposed to "slash, slash, back slash" and all these weird commands. Having grown up with this stuff, I've seen a continuĀm--from semilanguage programming to text to graphical interfaces and on to voice recognition--and operating systems are definitely progressing. We have 250 million of these things in use, and they're better than slates and chisels, so somebody's doing something with them. [Laughs.] But I take it as a fair point. The industry has spent a lot more time focusing on who has the fastest chip than who has the best user interface. I gave a talk about that three or four years ago. It's still true today.
The Herring: Is this because one company controls the operating system?
Dell: I don't think so. There are still a lot of attempts at adding functionality to the operating system. And if you look at the microprocessor world, there has been plenty of competition, but what has that done for consumers?
The Herring: Well, it's lowered the price of hardware. The cost of operating systems has gone up.
Dell: The problem is that the software business lends itself to that. You look at any category, particularly system software, and it tends to migrate to one company. It happened in databases and operating systems.
The Herring: Do you think the Justice Department's suit against Microsoft is "perverse," as Microsoft has alleged?
Dell: It is a little weird. Most customers don't really care. Most customers we sell to say, "Hmm, I get Internet Explorer for free. Great."
The Herring: According to the Justice Department, Compaq was strong-armed by Microsoft when it tried to pull Internet Explorer off its systems. Did Dell ever experience anything along these lines?
Dell: We wanted to put Microsoft's browser on our computers. We have two kinds of customers when it comes to software: people who take our standard offering and people who load their own custom programs. A number of our customers, like Merrill Lynch, prefer Netscape Navigator, and a number of them prefer Internet Explorer. We don't tell them what to do: they tell us what to put on the hard disk, and we put it on. But we don't have customers tell us that they don't want Internet Explorer. For most people, if you say something's free, they want two of them. It really hasn't been a problem for us.
Dell Computer at a glance
CEO Michael Dell
Location Round Rock, Texas
Phone 512/338-4400
Web www.dell.com
Ownership Public (Nasdaq: DELL)
Founded 1984
Employees 14,900
Products Notebook and desktop PCs, servers, peripherals
Partners Intel, Microsoft
Competitors Compaq Computer, Gateway 2000, NEC
Revenues FY97 $7.8 billion
Revenues 3Q98 $3.2 billion
Market value $28 billion
Kemble, It doesn't get any better than this!
Best, Duncan |
