Dell Q2 – A long and weary road

Q2 results make a breakup inevitable.

• Dell reported difficult Q2 results as margins were sacrificed in order to cling onto market share.
• Q2 revenues / EPS were $14.51bn / $0.25 broadly in line with estimates at $14.18bn / $0.24.
• The one bright spot was revenues which came in ahead of expectations as PC sales fared better at -5% YoY compared to the industry decline of 10% YoY.
• Enterprise, Services and Software all performed reasonably and saw growth in revenues YoY.
• Margins in PCs continued their free fall with just 2.2% EBIT margins earned over the last three months.
• Mobility also fared badly with revenues falling by 10% underlining the fact that Dell has no real idea how to face the change that it is facing in the computing market.
• The company declined to guide for the coming period and did not hold a conference call.
• This was presumably as a result of the much delayed vote to take the company public which is now expected on September 12^th.
• The share price (which I tend to agree with) is indicating that the Silverlake / Dell deal to privatise the company will be successful.
• This will involve raising around $17bn of debt which will be held on Dell’s balance sheet.
• This leaves the new owners of Dell with two options.
  • One: Invest massively in R&D to invent a whole new concept of computing combining form factor and software.
  • This would hopefully lead to a revival in margins if not sales growth from which the company can be re-IPO’d and a tidy profit made for the risk taken.
  • Two: Tidy up the PC business and sell it on realising the full value of the other parts of Dell. For this to work the entity needs to sell the PC business for at least $17bn in order to pay down the debt.
  • This would leave the equity holders with the Enterprise, Services and Software business all which are growing.
  • The valuation of these businesses is currently being heavily polluted by the presence of the PC business and I am pretty certain that a very high return will be made as long as the PC business can be tidily disposed of.
  • The risk of this strategy is that Silverlake and Dell are unable to get rid of the PC business, it continues to deteriorate and the debt starts to weigh on the value of the other businesses.
• Either way, the new owners of Dell face substantial risks in realising the full potential of Dell and they should be rewarded accordingly.
• As it is today, Dell is at a strategic cross roads and is lumbered with a large stagnating business that it has no idea how to fix.
• Consequently, I think that at $13.75, shareholders are getting a very fair deal.
• As it is today, the company is worth far less.