Earnings Miss, Falling Shipments And LBO: Should You Sell Dell?

Jun. 4.13 | About: Dell Inc. (DELL)

The stage is being set for the fight over the control of Dell (NASDAQ:DELL) as the company's special committee has thrown its weight behind Michael Dell and Silver Lake Partner's offer. On the 18th of July, Michael Dell and Carl Ichan will put the case before shareholders for their votes on their respective proposals.

In a letter written to shareholders, the special committee has asked the owners to vote for Michael Dell and Silver Lake Partner's offer of a $13.65 per share leveraged buyout instead of Carl Icahn and Southeastern Asset Management's proposal of a $12 per share special dividend.

Icahn and his partners have offered paying the dividend in cash or stock while the company would continue to trade at NASDAQ. If shareholders vote in favor of Icahn then there is very real chance that he would replace Michael Dell as the chief executive. Icahn believes there is significant value in Dell's Enterprise unit while tech giants such as Microsoft (NASDAQ:MSFT) or HP (NYSE:HPQ) can purchase Dell's struggling PC business.

Both Icahn and Southeastern own 13% of the shares of the company while Michael Dell has a 15.6% stake in Dell. To support their leveraged recapitalization proposal, Ichan and Southeastern are reportedly negotiating with asset managers and banks for up to $7 billion in bridge loans. Michael Dell's offer has financial backing of up to $13.75 billion from BoA Merrill Lynch, Barclays, Credit Suisse, RBC Capital Markets and Microsoft Corp.

Dell's Earnings Miss

Meanwhile, Dell reported its quarterly results on 16th May in which it missed the earnings but met the revenue estimates. Its net sales fell by 2.4% to $14.07 billion, below analysts' expectations of $13.5 billion. Net income dropped by 79.6% to $130 million which translates into an adjusted income of $0.21 per share as opposed to the market's estimates of $0.34 per share. The company has attributed this decline in profit to lower prices as it struggles to maintain its market share. The business has also upped its R&D expenditure for software and newer businesses while it is also increasing its sales force. Its R&D and engineering expenses have increased by 34% to $313 million from $234 million in the same quarter last year.

The software and services businesses have given support to the company after poor performance from PC. For services, both operating income and revenues have increased. Software is expected to be profitable from Q1-2015. The unit has added $295 million to the topline and incurred an operating loss of $85 million.

In End User Computing (EUC), from where Dell generates 62% of its sales, was the worst performing segment where its operating income dropped by 65% to just $224 million. Enterprise Solution Group (ESG) unit posted a growth of 9.8% as sales of server and networking equipment rose by 16% from the same quarter last year. The increase in revenues of the services segment was driven by 11% growth in sales of security, infrastructure and cloud services.

Dell Inc. Revenue by Segments

Segments

2012

2013

% Change

End User Computing (EUC)

$9,832

$8,920

-9.30%

Enterprise Solutions Group (ESG)

$2,816

$3,093

9.80%

Dell Software Group

$38

$295

NM

Dell Services

$2,073

$2,109

1.70%

Click to enlarge

HP Beats Estimates

On other hand, another struggling PC giant and Dell's bigger rival Hewlett-Packard (NYSE:HPQ) has beaten the earnings expectations in its most recent quarterly results. The company has reported adjusted earnings of $0.87 per share on revenues of $27.8 billion as opposed to analysts' expectations of $0.81 per share from revenues of $28.12 billion. Overall, both revenues and income have fallen by 10.1% and 32.4% respectively from the corresponding period last year.

Market Share

According to data compiled by IDC, globally, Dell has been able to maintain its market share while Lenovo (OTCMKTS: OTCPK:LNVGY) is quickly catching up with HP. Both Dell and HP have reported a significant drop in PC shipments in the U.S as well as international markets.

Worldwide PC Shipments and Market share: (In Thousand Units)

1Q-12

1Q-13

YoY

1Q-12

1Q-13

% Points

SHIPMENTS

SHIPMENTS

Growth

Mkt share

Mkt share

Change

HP

15726

11997

-23.71%

17.70%

15.70%

-2.00

Lenovo

11705

11700

-0.04%

13.20%

15.30%

+2.10

Dell

10110

9010

-10.88%

11.40%

11.80%

-0.40

The U.S. PC Shipments and Market share: (In Thousand Units)

1Q-12

1Q-13

YoY

1Q-12

1Q-13

% Points

SHIPMENTS

SHIPMENTS

Growth

Mkt share

Mkt share

Change

HP

4632

3570

-22.93%

28.50%

25.10%

-3.40

Dell

3590

3074

-14.37%

22.10%

21.70%

-0.40

Apple

1533

1418

-7.50%

9.40%

10.00%

+0.60

Click to enlarge

Stock Update: 'Sell' approaching

Since issuance of the letter to shareholders mentioned earlier, Dell's stock has been up 11 cents to $13.38. Overall, the stock has been up 34% this year, with most of the increase coming in the first fifteen days of January. Since 16th January, the shares are up 1.6%.

Clearly, Dell's stock has been trading on the buyout news, not on its performance which is far from satisfactory. Analysts at BMO Capital Markets and UBS have a 'Market Perform' and 'Neutral' ratings on the stock with a price target of $14 and $13.65 respectively. Deutsche Bank has a 'hold' rating with a $13.65 price target. On the other hand, Topeka Capital Markets have reiterated their 'buy' rating with an $18 price target.

At the current price levels, I am not expecting a significant rise in Dell's stock if the deal goes through but if the shareholders vote in favor of Carl Icahn's proposal then the stock could plummet. Therefore, the better option would be to 'hold' until the stock touches $13.65 in the coming days, which would indicate a 2% increase from the current level, and sell at that price (UBS and Deutsche Bank's PTs) before the shareholder's meeting.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.