Dell Inc. (NASDAQ:DELL) has cut its earnings estimates for the first quarter, saying the shortfall “was driven primarily by pricing decisions in the second half of the quarter.”
So maybe Citigroup was right about what the company was planning when it downgraded to the stock to "Sell", arguing that "The pricing advantage enjoyed by Dell is eroding as competitors adapt its inventory and supply-chain innovations, and the company needs to contemplate lower margins to preserve its franchise".
At any rate, aggressive pricing was no surprise. With prices falling at a faster rate than unit sales are growing, the company is finding it tough to show any gains on the top line. This begs the question as to whether DELL could be considered a slow-growth value play.
Trading below $25 after hours, the stock is packing a $51 billion enterprise value. Its free cash flow was $4.8 billion in FY2005 and $4.1 billion in FY06. Making allowances that there will always be fluctuation gives us an average free cash flow of $4.5 billion, and an EV/FCF (enterprise value to free cash flow) multiple of 11.3x.
Even if we assume a fairly high (by today’s standards) cost of capital of 12 per cent, the implication of the current value is that free cash flow will grow by only 3.2 per cent annually. Of course, last year it declined.
Alternatively, the stock should probably trade at about a market multiple due to its size and the fact that growth seems to be slowing toward that of the average company. The trailing multiple on the S&P 500 is just over 18x, which is also where DELL was before the 6 per cent after-hours haircut last night.