Dell Turnaround Stoked by Emerging Market Sales

Dell Inc. (DELL) reported a solid first quarter with earnings of $.38 per share on $16.08 billion in revenue (see conference call transcript). The results beat Wall Street estimates of $.34 EPS and $15.68 billion in sales.

This is positive news for a company that has struggled greatly in the last few years, and could be read as a positive sign that the company’s turnaround strategy is paying off. Since Michael Dell returned as CEO, the company has worked to become more competitive by cutting costs. The clear emphasis of this cost cutting effort has been to reduce redundant employees and in the first quarter Dell aggressively cut 3700 jobs--bringing the total over the past year to 7000. Operating expenses dropped 7% from the fourth quarter, thanks in large part to this downsizing. The company hopes to attain $3 billion in cost savings by 2011.

Dell’s workforce reductions have not adversely affected sales as product shipments increased 22% in the quarter. A particular highlight was server sales, which increased 21%--three times the rate of growth of the industry as a whole. Furthermore, notebook unit sales grew at a stunning 43% clip; however, because of price cuts, revenue on notebooks did not keep up that pace, growing only 22%. Other business segments also made nice gains. The lone segment that struggled was desktop sales which dropped 5%. Dell has aggressively cut prices on many of its products, which boosted sales but negatively impacted margins.

Of particular interest, for the first time in Dell’s history, more than half of revenue came from sales outside of the U.S. Emerging markets such as China, India, Russia, Brazil and Latin America grew exceptionally fast. The weak dollar clearly had a big impact, but so too did Dell’s turnaround strategy of trying to aggressively grow market share in these up-and-coming, computer-buying nations/regions. Overseas growth was essential to Dell’s strong quarter because business spending on IT in the U.S. slowed almost to a halt, as companies bought only what was essential in the face of a weakened economic outlook.

Ockham Research currently rates Dell a Strong Buy, as it has fallen out favor with the market for some time and the company’s recovery appears to be underway. Price-to-cash flow is currently only 12.22, which is 50% of Dell’s historical average. Likewise, price-to-sales also demonstrates the current cheapness of the stock. We would consider a price-to-sales of 1.16 to 1.96 as normal for this stock, but the current number is only .749 times sales per share. Given current fundamentals, we would expect Dell to trade at about $35 per share. The current price would need to appreciate by fifty percent to bring these metrics into a normal standing.

Dell management apparently agrees that its stock is undervalued, as the company closed a $1.5 billion private placement in April in order to buy back stock. The company bought back more than $1 billion or 52 million shares in the first quarter. Furthermore, at quarter end, Dell had $9.8 billion in cash, so expect the company to continue to buy back stock aggressively in the second quarter.

(taken from: here)