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Executives

Brian Gladden - Chief Financial Officer and Senior Vice President

Robert Williams - Director of Investor Relations

Michael Dell - Founder, Chairman and Chief Executive Officer

Stephen Schuckenbrock - President of Dell Services

Analysts

Louis Miscioscia - Collins Stewart LLC

Brian Marshall - Gleacher & Company, Inc.

Maynard Um - UBS Investment Bank

Keith Bachman - BMO Capital Markets U.S.

Benjamin Reitzes - Barclays Capital

Richard Gardner - Citigroup Inc

Jayson Noland - Robert W. Baird & Co. Incorporated

Brian Alexander - Raymond James & Associates

Steven Fox - Credit Agricole Securities (USA) Inc.

Chris Whitmore - Deutsche Bank AG

Kathryn Huberty - Morgan Stanley

Mark Moskowitz - JP Morgan Chase & Co

Scott Craig

Toni Sacconaghi - Bernstein Research

Bill Shope - Goldman Sachs Group Inc.

Shannon Cross - Weeden & Co. Research

Dell (DELL) Q4 2011 Earnings Call February 15, 2011 5:00 PM ET

Operator

Good afternoon, and welcome to the Dell Inc. Fourth Quarter Fiscal Year 2011 Earnings Conference Call. [Operator Instructions] This broadcast is the copyrighted property of Dell Inc. Any rebroadcast of this information, in whole or part, without the prior written permission of Dell Inc. is prohibited. As a reminder, Dell is also simulcasting this presentation with slides at www.dell.com/investor. [Operator Instructions].

I'd like to turn the call over to Rob Williams, Vice President of Investor Relations. Mr. Williams, you may begin.

Robert Williams

Thank you. With me today are Michael Dell; Brian Gladden; and Steve Schuckenbrock, President of Dell Services. Brian and Steve will review our fourth quarter results, and Michael will follow with his comments. We have posted our web deck on dell.com, and we released a vlog on Dell Shares. I encourage you to review these materials for additional perspective.

In Q1, we will be attending the Morgan Stanley Technology Conference on March 2 and the Wells Fargo Tech Summit on April 7. Also, on March 31, Dell and UBS will host a conference call with Steve Schuckenbrock to discuss our Services business.

Next, I'd like to remind you that all statements made during this call that relate to future results and events are forward-looking statements that are based on our current expectations. Actual results and events could differ materially from those projected in the forward-looking statements, because of a number of risks and uncertainties, which are discussed in our annual and quarterly SEC filings and in the cautionary statement contained in our press release and in our web deck. We assume no obligation to update our forward-looking statements.

Please note that on today's call, we will be referring to non-GAAP financial measures, including non-GAAP gross margin, operating expenses, operating income, net income and earnings per share. Historical non-GAAP financial measures are reconciled to the most directly comparable GAAP measures in the slide presentation posted on the Investor Relations portion of our website at dell.com and in the press release included in our 8-K filed today. I encourage you to review these documents. Please also note that unless otherwise mentioned, all growth percentages refer to year-over-year progress.

Now I'd like to turn it over to Brian.

Brian Gladden

Thanks, Rob. We had a very strong fourth quarter, and it caps off of solid full year for the company. We had great contributions from all parts of our business in the quarter, and have now grown revenue and improved profitability for four quarters in a row. As we've said before, our teams have been focused each quarter on delivering an operating income target. We have had quite a few areas where our execution improved significantly. We were vigilant on cost, we reduced complexity and optimized our supply-chain, we expanded our enterprise solutions and services footprint, and we were disciplined on price and sales execution. This quarter's results really speak to the momentum we feel in the business, and we're confident on the sustainability of this performance.

Let's take a closer look at the fourth quarter P&L, and then I'll revisit our full year results before turning to our outlook for the next year. Our key performance metrics are provided for your reference on Pages 5 and 6 in the web deck. Revenue in the fourth quarter was $15.7 billion, up 5% year-over-year and 2% sequentially, driven by another strong showing in our Enterprise Solutions and Services business and strong commercial client growth led by Large Enterprise and the SMB business.

Enterprise Solutions and Services grew 7% to $4.6 billion in revenue, while our Client Product business grew 4% to $8.4 billion. Also, our Consumer business showed improvement and was modestly profitable at 2% operating income. On a GAAP basis, operating income was $1.1 billion or 7.3% of revenue, and we delivered record earnings per share of $0.48, the highest ever in any quarter for the company. Earnings per share was up 182% year-over-year and 14% sequentially.

For the rest of this call, I'll refer to non-GAAP financial measures. We delivered 21.5% gross margins, driven by strong supply chain execution, continued broad component cost declines and good pricing discipline, and sales execution, which positively impacted all of our lines of business. OpEx was $2.1 billion or 13.3% of revenue and was driven by increased investment in our solutions teams and sales capacity and additional expense related to our performance-based compensation plans. As we reiterated last quarter, our variable compensation plans are directly tied to revenue growth, operating income growth and cash flow. So we feel good about how these plans are working.

Operating income grew 61% to $1.3 billion or 8.2% of revenue. All of our commercial and public segments showed improved operating leverage in the quarter. The Commercial segment as a whole delivered 10.6% operating income, representing a 270 basis point increase from the previous year. Interest and other expenses were $18 million, driven by approximately $60 million of quarterly interest and banking fee expense, offset by foreign currency impact and investment income.

For the quarter, our tax rate was 19.7%, driven by an increase in earnings attributable to lower tax jurisdictions. For the full year, our tax rate was 22.2%. Earnings per share increased 89% year-over-year to $0.53 per share in the quarter. In the quarter, we generated $1.5 billion in cash flow from operations, $1.6 billion in free cash flow and our cash conversion cycle was a negative 33 days. We ended the quarter with $15.1 billion in cash and investments, and we repurchased $200 million worth of stock in the quarter.

As we described on Slide 10, we are committed to an A credit rating to support our captive finance company and ensure access to commercial paper. We continue to actively manage our global liquidity and continue to monitor the credit markets for favorable entry points.

Also, because this topic has come up a couple of times now, let me say again we have no intention to take the company private. We're focused on funding the strategic transformation of the business and maintaining a moderate share repurchase program. This year, we returned nearly 20% of free cash flow to equity investors in the form of $800 million in share repurchase.

Now let's take a look at our lines of business and regional performance, which you'll find detailed on Pages 11 through 15 in our web deck. Enterprise Solutions and Services revenue grew 7% to $4.6 billion, driven by strong performance in servers and networking, which grew at 16%. Rack and blade servers both grew 26%. Our Storage business grew 6% sequentially and declined 4% year-over-year. EqualLogic had another strong quarter, with revenue that grew 49%. Clearly, our Storage business has transitioned from primarily being a Storage reseller to a full-fledged storage technology provider. Because of this change in mix, our total gross margin contribution from Storage has more than doubled over the last two years. We've made a conscious decision to invest organically and inorganically to grow our intellectual property, and we're pleased with the progress here.

Turning to Client. We continue to see a strong corporate refresh cycle, driven by consistent growth in Large Enterprise and the SMB businesses. We anticipated more pricing pressure than actually materialized in the quarter and are hopeful that this environment will continue. Overall, client hardware revenues were up 4%. Client revenue in Large Enterprise grew 20%, and in SMB, it grew 10%. Consumer client growth was up 10% sequentially but down 6% year-over-year, relative to a strong Windows 7 launch last year.

Software and Peripherals grew 7% to $2.7 billion, driven by strong performance from displays and peripherals, and now represents 17% of our revenue. Geographically, we saw revenue growth across all regions, with APJ up 17%, and the Americas and EMEA were both up 3% in the quarter. Emerging countries continue to be a key driver for us. BRIC countries grew 21% and now represent 13% of our consolidated revenue. India was up 37%, China was up 21%, and Brazil was up 15% year-over-year in the quarter. Revenue among BRIC plus 10 countries grew 19%, and for the full year, revenue was now almost $10 billion. In particular this quarter, revenue grew 33% in Southeast Asia.

Turning to our segment level performance on Pages 16 through 20 in the web deck. In our Large Enterprise, Public and SMB segments combined, revenue grew 9% to $12.4 billion. Strong demand, good sales execution and a favorable cost environment led to double-digit gross margin dollar growth for Servers, Storage, Client and SMP business. The combination of these segments delivered $1.3 billion in operating income or 10.6% of revenue and up 270 basis points from the prior year.

Our Public business revenue was up 4% to $4 billion. We continue to see a mixed environment here, with challenging customer dynamics in Europe. Server and Storage revenue was up 13% and 12%, respectively. Overall, Public op inc [operating income] was $366 million and improved 50 basis points to 9.2% of revenue.

Our Small and Medium Business had a very strong revenue and profit quarter as well. Revenue of $3.7 billion was up 12% to the highest level in two years, driven by strong demand across all product lines. Servers and storage revenue were up 22% and 20%, respectively, while our client hardware was also strong with revenue there up 10%. We delivered operating income of $450 million or 12% of revenue.

In our Consumer business, revenue was $3.3 billion and up 11% sequentially, driven by the holiday season, and down 8% versus the previous year after last year's launch of Windows 7. More importantly, Consumer delivered 2.1% operating profit. We continue to make progress in our product and marketing initiatives and in matching our supply chain with the retail buying seasons. This was again the case during the holiday season. Overall, operating profit improved due to supply chain transformation, favorable component environment and a streamlined product portfolio.

Now I'll turn it over to Steve Schuckenbrock to discuss our Large Enterprise and Dell Services performance.

Stephen Schuckenbrock

Thanks, Brian. First, let me start with the Large Enterprise segment. Revenue was up 12% to $4.7 billion, led by an ongoing hardware refresh and early stages of new project investments among large corporate accounts. Client revenue was up 20% and server growth was up 14%.

Op inc as a percent of revenue improved 150 basis points sequentially and 400 basis points on a year-over-year basis, driven to a record high of $502 million or 10.7% of revenue. Moreover, FY '11 revenue in Large Enterprise was back to FY '09 levels. Profitability has improved 190 basis points from 6.4% operating income two years ago to 8.3% in FY '11. The profitability improvement in Large Enterprise was indicative of the changes we're making in our business. The first is the change in mix in our business to more Enterprise Solutions and Services. At the beginning of FY '09, Enterprise Solutions and Services represented about a third of our Large Enterprise business and less than half of our gross margin contribution. As we closed FY '11, Enterprise Solutions and Services' mix has increased to 41% of our revenue and over half of our gross margin contribution.

The second change is better client dynamics in the back half of this year, particularly as component costs improved, coupled with a resurgence in corporate demand. The third significant change is better overall sales execution. All year long, we have been motivated and disciplined with respect to managing for op inc dollar growth. We have made significant investments in sales and marketing capabilities and are definitely seeing the result of solution selling, better pricing execution and strong positioning for robust demand that is aligned with our most profitable products. We believe all of these changes are sustainable into this year. We will continue to drive the mix towards our Enterprise Solutions and Services business, and we feel good that corporate demand will continue.

As you know, I recently moved back to head our Services business. First, I want to thank Peter Altabef and the Dell Services team on the successful integration of Perot Systems. It is never easy to take two separate organizations and blend them into one. But in the last year, the team and plan has delivered on its first year of revenue and cost synergy targets and put together a services organization with annual revenue of $7.7 billion. This team now includes 43,000 people within services and IT, operates 60 technology support centers in 90 countries, and manages 36 customer data centers.

Also, the acquisitions of InSite One and SecureWorks attest to our intent to grow IP in areas customers value, and where we see continued business growth. InSite One is the largest independent provider of object storage used to catalog medical imaging. It is a fantastic acquisition. Similarly, SecureWorks gives us a beachhead and security, and positions us to offer more cloud-based solutions. SecureWorks leverages unique industry-leading IP that process more than 13 billion security events per day and protect more than 3,000 customers on a worldwide basis.

For the fourth quarter, Dell Services revenue grew 1% to $1.9 billion. Transactional warranty support of $1.1 billion, flat on a year-on-year basis and up 2% sequentially. Outsourcing revenue was $656 million, up 2%. We have experienced slightly longer sales cycles this year, but the level of bid activity continues to be elevated. Our project services grew 6% to $190 million. Solutions surrounding globally delivered application services, domestic enterprise resource planning and engineering services saw the strongest year-to-year growth.

Our services backlog is now $13.9 billion, up 9% on a year-over-year basis. Services backlog includes deferred service revenue and contracted services backlog, and provides useful information regarding trends and changes in the size of our services business over time. Deferred service revenue, which consists of primarily of our extended warranties were $6.7 billion, up 10% year-over-year. Estimated contracted services backlog, which is primarily related to our Outsourcing Services business, was $7.2 billion, up 8% overall, and importantly, includes our new customer signings which were up 17% on a year-over-year basis. We are very confident in the value we can create for our customers and shareholders through continued innovation and outstanding service delivery. I look forward to updating you on our services strategy on a separate call on March 31.

Now let me turn it over to Brian.

Brian Gladden

Thanks, Steve. Let me quickly wrap up with a look back at the full year. Fiscal year '11 revenue was $61.5 billion, up 16%. Non-GAAP gross margins improved 90 basis points to 19.1% for the year, and operating income grew 40% to $4.1 billion, or 6.7% of revenue. And we delivered non-GAAP earnings per share and GAAP earnings per share of $1.59 and $1.35, respectively, our best performance in five years.

Cash flow from operations was $4.0 billion. Our Enterprise Solutions and Services business is now at $17.6 billion franchise, up from $14.5 billion two years ago. As Steve pointed out, an increasing percentage of our profit contribution is coming from these Solutions and Services business. Our supply chain teams have also done an excellent job of redefining and optimizing our supply chain to accelerate our competitiveness. Over the last couple of years, we've moved significant manufacturing capability to contract manufacturers. The ODMs now produce about 70% of our product. We now ship approximately 42% of our client hardware as fixed configurations and freight most of this volume over the water. Our product quality is also significantly improved, such that we were able to realize lower warranty expense.

Consistent with the plans we shared with you in June, we've also been investing OpEx for the future of our business. During the year, you saw us ramp our growth investments as our margins improved in the second half. We're pleased with the results we achieved this year and believe they demonstrate that our strategy has taken hold and is progressing well.

Let's turn to our outlook for the full year. For fiscal 2012, we expect revenue growth of 5% to 9%, non-GAAP operating income growth of 6% to 12%, and continued strong execution on cash flow, with cash flow from operations exceeding our net income. We believe the favorable component cost environment should continue into the first half of fiscal year 12, but the rate of cost inflation could slow as we move through the second half of the year. We also note that we continue to make strategic investments to grow our Enterprise Solutions and Services business.

On a quarterly basis, we anticipate interest and other to increase to around $60 million in expense per quarter. Our tax rate for the full year FY '11 was slightly over 22%, and we see our tax rate next year to be in the 23% to 25% range. I want to reiterate that our teams are aligned and incentivized for reaching revenue operating income and cash flow targets. In FY '11, we consistently hit our operating targets every quarter. We did so by making appropriate trade-offs and pruning lower-margin business in favor of revenue that delivered higher margins.

We also modulated our operating expenses in the first half of the year, and then made prudent investments in the back half of the year as margins improved again. We effectively improved operating income throughout the year while making key long-term investments that will drive our performance in the future. As we move into FY '12, we will sustain this discipline and performance around managing for profitable growth. For the first quarter, we expect normal seasonal declines in our Consumer and Public businesses, and as such, a slight sequential decline in revenue overall.

With that, I'll turn it over to Michael.

Michael Dell

Thanks, Brian. It's been a great year. There's a lot to celebrate from FY '11, and I'm very pleased with our full year results and the strong performance we're seeing in our Commercial business. FY '11 was largely about building out our enterprise solutions and services portfolio, and fixing and transforming or supply chain to get us healthy and more competitive. We grew our Enterprise Solutions and Services revenue 27% to $17.6 billion. And Dell branded storage now represents nearly 2/3 of Storage revenues and over 80% of storage profits.

During the year, our supply chain improved significantly, and client gross margin dollars improved more than 40% in the second half of the year. We remain focused on developing and acquiring new technologies and capabilities, and our IT solutions portfolio has never been stronger. Among these investments are the recently completed acquisitions of SecureWorks or Managed Security Services; Boomi, as a SaaS platform to ease data exchange between cloud-based and on-premise applications; and InSite One, a cloud-based leader in medical archiving solutions.

Our strategy around the efficient enterprise and flexible supply chain continues. We continue to develop and acquire key IP and enhance our sales capabilities. And we're also narrowing our focus on three key solution domains, namely: End-user computing, data center and information management, and services in all things cloud. Each of these solution domains represent key areas Dell has to win.

If FY '11 was largely about getting operationally fit, then FY '12 is going to be about leveraging this position of health and strength to move more aggressively and accelerate our transformation as a services and solutions company. Customers are now seeing Dell in a fresh light, and we're heading into the New Year with strength and optimism.

With that, let's open it up for questions.

Robert Williams

Thanks, Michael. Just a quick reminder, please limit your questions to one with one follow-up. Casey, let's go ahead and take the first question.

Question-and-Answer Session

Operator

[Operator Instructions] And we will take our first question from Bill Shope with Goldman Sachs.

Bill Shope - Goldman Sachs Group Inc.

I was wondering if you can give us some more detail on component pricing, particularly the margin driver. Which components benefited the quarter most, and which component do you expect to fuel the continued benefit you stated going into the first half? And then as a follow-up to that, when you comment on the sustainability of results, result is that a gross margin statement for fiscal 12? Or will you adjust OpEx downward as we approach more normalized gross margins in the back half of the year?

Brian Gladden

I think on the component side, I guess I would make the point that components continue to be favorable as we said coming out of the third quarter. I think memory obviously contributed in the quarter. LCD is continuing to contribute as well. Just generally we saw overall a very favorable component environment in the fourth quarter. But I would also say that there were a lot of other areas that contributed to the improved performance in margins and operating income in general. Great supply chain execution. We talked about product quality improvements. We have good pricing execution in the quarter, expanded product offerings, and moving into some high-priced bands in all parts of the business. And you see the performance improvement we saw in the Consumer business. So a lot of specific items that contributed to that improved performance, not just components. As we think about heading into the fiscal year '12 and the outlook that we provided, we've talked a lot about, and what we provided really is operating income, so our energy is focused around operating income and cash earnings as the priority. And we're not really fixated on gross margin. So we've been saying this for a while, over time, we've said that our strategy should result in higher gross margins and higher OpEx for the company. I think we're starting to see some of that, and we saw operating income for the year in the 6.7% range of revenue for the total year, which is a nice improvement over last year's 5.6%. And based on the outlook we gave you for fiscal year '12, we would expect to see continued improvement in the operating income percentage. So that's kind of how we're thinking about it. We'll modulate around that as we move throughout the year.

Operator

Our next question will come from Richard Gardner from Citi.

Richard Gardner - Citigroup Inc

I think you just answered one of them. Just to be clear, Brian, you are committed to continued expansion in operating margin percentage this year it sounds. Could you talk about the areas that you see and the opportunities that you see both in terms of improving product mix and reducing costs that will contribute to that continued expansion this year?

Brian Gladden

Yes, I think it's going to be more of the same in terms of the area of focus. You'll see us continue to focus on the supply chain. There are areas we can continue to find cost on the product side, pricing is clearly an opportunity; expanding the business on the enterprise side clearly has to be the biggest priority for us as we mix up business in general. So I think you'll see that as we move forward as well and some of the investments we're making from acquisition standpoint, but also the OpEx we put into the business is primarily focused on those higher margin areas that should ultimately drive expansion of overall operating income for the company. So I think that's kind of the way we're thinking about it.

Richard Gardner - Citigroup Inc

And then as follow-up for, Michael, I guess. Michael, you talked about this year being an even more aggressive year in terms of the company's transformation. Is there a takeaway from that statement regarding the company's acquisition strategy for this year, or is the acquisition strategy going to remain pretty much the same?

Michael Dell

I think it will be very similar to what you've seen us do in the recent history here, where we're looking for relatively smaller sized ingredient acquisitions where we can leverage them with our substantial customer access and distribution. A couple of points just to add on to some of the recent questions. Clearly, there are mixed improvements going on in the business that's helping the margins. You also recall that we embarked on a real change in our supply chain about two years ago and have really made some remarkable progress in that, showed up quite a lot in the second half of the year. I think this year, we'll have a full year effect of that, and we're quite pleased with the improvements there, and we think those are sustainable.

Operator

Our next question will come from Ben Reitzes with Barclays Capital.

Benjamin Reitzes - Barclays Capital

Michael, could you elaborate a little bit more on software in particular? You have that chart in your remarks going through your acquisitions. Could you just clarify a little more on where you think you are in management software and perhaps just a little more elaboration on your software strategy in particular because you bought storage, you obviously are pretty good in servers. So can you just talk about where you are in software and what your strengths and weaknesses may be there?

Michael Dell

I think you're already seeing us in systems management and some of the software around supporting the systems infrastructure. The KACE acquisition was completed about a year ago. I think we have more than tripled the size of the business and had really great success with that. We're looking at how we can expand that platform into new customer categories and new capability. And we're finding a great ability to combine more and more offers together. So we have very strong server platform. The storage platform continues to grow. We have strengthened the PowerConnect line, particularly with our own PowerConnect 10 gig switch. And software, to help the management and orchestration of large numbers of virtual machines, recently, we acquired SecureWorks, which has a substantial amount of IP and managing security incidents and has become a trusted provider to thousands of companies around the world. That's a platform we think we can grow quite substantially at attractive margins.

Operator

Our next question will come from Toni Sacconaghi from Sanford Bernstein.

Toni Sacconaghi - Bernstein Research

I wanted to revisit the gross margin question for the first half of 2012. It looks like at least for the first quarter, you're expecting relatively flat revenues. You commented that you expect a favorable component cost environment to continue into the first half of the year, and your gross margins have gone up 150 basis points or more in each of the last two quarters. So I guess the question is why wouldn't gross margins continue to go up in the first half of 2012? Are you expecting some change in the pricing environment?

Brian Gladden

Well, I think, Toni, I mean, if you recall the third quarter conversation, I mean we were probably a little bit hesitant to commit, given anticipating a little bit more challenging pricing environment that really didn't play out that way. So I think we'll take a conservative approach and be hopeful that, that's the environment that continues. If we see continued progress in terms of the execution of the team and supply chain changes that we've made, as well as a great environment, then it should be a good environment for us, and that's what we're hopeful for. But, again, we're driving operating income and we're going to make some investments in that sort of environment to ultimately position us for the long term.

Michael Dell

Tony, I would just like to emphasize that for us, profit growth is more important than unit growth, and that will be the defining sort of philosophy that we use here.

Operator

Our next question will come from Keith Bachman with Bank of Montreal.

Keith Bachman - BMO Capital Markets U.S.

This is for you, Brian, if I could. Can you talk a little bit about the underpinnings of your revenue growth guidance for FY '12. In particular, I'd like to hear how you're thinking about the client revenues, the growth trajectory there, as well as services to get to the guidance that you talked about, please.

Brian Gladden

I think we've given you a range that we think captures some of the potential volatility we can see in the environment. I do think we're fairly well aligned with what we think what most of the industry projections are around client growth for the year. Again, we're more heavily weighted towards the Commercial side of that business. So we should do slightly better than that in terms of overall growth rates, and we would expect that to play out for us. Other parts of the business, we would expect to grow faster than the market on our Enterprise Solutions and Services side of the business. So if you can put all that together, that's sort of how you get to that range that we laid out.

Operator

Our next question will come from Steven Fox and CLSA.

Steven Fox - Credit Agricole Securities (USA) Inc.

First of all, just following up on that revenue question. You talked about the revenues for the sales cycle rather than for the Services business elongating, and your Public Services revenues is about 40% of the total. So does that -- why would the Services business grow maybe faster than average or below average? And then secondly, can you just talk about the SMB margins a little bit more. How sustainable are the Q4 levels? What could pull them in or allow them to stay at those levels?

Brian Gladden

I guess I'll let Steve answer the services question. I think clearly, there are lots of areas where we have room to grow in the Services business in places we're going to make investments to expand beyond the current footprint we have in services. So that's going to be a big part of the answer in terms of how we grow faster than the market.

Stephen Schuckenbrock

Yes, I mean, our Public business was 40% of its revenue in the Services space is indicative of the strength of our healthcare business. If you look at the combination of our transactional business, which is more historical Dell and the acquisitions that we've made over the course of last year, so we've got a phenomenal healthcare business, in fact ranked the best or at the top quadrant of the space by Gartner. We are quite excited about some of the growth opportunities, including the acquisition we just made of InSite One and some of the capabilities that we're bringing to hospital communities and focused on patient care. You'll see us do similar things across other industries. And when you look at the cloud strategy, and you look at what we're doing relative to bringing IP like we did with SecureWorks, like we did with InSite One, like we're doing with some of the pack systems in the healthcare space, you'll see us to similar type plays across other industries, which I think will underpin growth rate not only in Public, but across Large Enterprise and SMB as well.

Brian Gladden

And, Steve, on SMB, I mean we're very, very pleased with the probability of that business. It's 12% of revenue right now. Great execution by the team, great progress in growing the business, the BRIC countries is driving some strong growth for them. There's clearly opportunity to continue to improve enterprise mix in the SMB business, and that will help us continue to drive high margins there. So as Michael said, we value the profit more than we do unit growth, and this is a place where it's playing out well for us.

Michael Dell

And I think we're highly differentiated in SMB, and we're finding that the acquisitions we're making have their fastest and first take off in SMB, but also applicability in all of our Commercial businesses.

Operator

Our next question will come from Brian Alexander with Raymond James.

Brian Alexander - Raymond James & Associates

Mayve as a follow-up on Keith's question. The revenue growth guidance for FY '12, 5% to 9%, it assumes acceleration from where we were in the fourth quarter, and most companies out there are expecting stable to perhaps moderating growth in calendar '11 from where we exited 2010. And in fact, the only categories that grew above 5% in your fourth quarter were servers and software and peripherals. So just going back to this, what gives you the optimism that growth will actually accelerate from where we were in the fourth quarter, and if you could be more specific by customer segment, products segment or region on where you expect to see that acceleration?

Brian Gladden

I think there's a couple of things going on. In the Consumer business, for instance, we made some conscious decisions to prune some of the growth we had in that business within the quarters, especially during the holiday season. I think we look back at that as a smart decision that helped us generate 2% operating income in the quarter. We'll continue to watch that business, and we'll continue to make those trade-offs in a smart way, but I think we expect to grow faster in Consumer this year. So that's clearly an area that you'll see us modulate around margins, but probably grow at a faster rate. I think if you look at the rest of the business, we continue to feel strong. There's going to be strong growth on the corporate side, around the client refresh. We think the Server business will continue to have above average growth rate for the industry, and some of the acquisitions that we've done will begin to attribute in terms of growth for the business on the enterprise side as well.

Brian Alexander - Raymond James & Associates

My follow-up would be the 2% Consumer margin that you just achieved. How much of that would you say was driven by sustainable improvements that you made in that business? And do you expect -- for your margin target for FY '12, do you expect to be able to sustain low single-digit operating margins in Consumer, especially given the fact that you expect it to grow nicely this year?

Brian Gladden

I can tell you, we're counting on the Consumer business to deliver improved margins in FY '12 from the fourth quarter.

Michael Dell

And we had very strong growth in our XPS and Alienware businesses. I think they grew 42% in the quarter, and I think you'll see us focus on more profitable opportunities there.

Operator

Our next question will come from Scott Craig from Bank of America.

Scott Craig

Just a quick question around the Services business. Can you maybe describe the margin progress you've made in the Services business over the past couple of years since you did the acquisition? And then just a follow-up on the Consumer operating profit question. That 2%, Brian, that you want to expand on, is that something that we'll see pretty consistently through the year? In other words, will it be 2% every quarter, or is that more of an annual target you're talking about?

Brian Gladden

I'll take the first part. I mean, we don't want to get kind of locked into micromanaging that. I mean, we're on a good track with that business, and we think the trajectory is good. Obviously, there's going to be some level of volatility in that business as you see demand ebb and flow in investments we need to make. But we would expect that it will improve from 2% in the coming year. And when we look back for the total year, I think we feel pretty good about it. So with that, I'll turn it over to Steve to talk about services.

Michael Dell

I think just generally about the margin improvement opportunities, as well as progress it has been made in services, our ProSupport business continues to resonate exceptionally well with customers, and the tax rates are up year-on-year. We expect that continued improvement in the tax rates into this year. That's a wonderful profit source for us, and as you saw in the preamble here, the backlog is now up to $13.9 billion. And that's an indication of both our Outsourcing business, as well as in our Transactional business underpinned by ProSupport. If you look at our outsourcing on our projects business, both of them saw revenue growth, but importantly, we've made real progress in some of the outsourcing contracts and saw improvements across those. And in the Projects business, we see significant opportunity to improve the profitability as we lean into this year. So we feel very good about not only the progress we've made, but some of the opportunities that lie here in the short term.

Operator

Our next question will come from Maynard Um with UBS.

Maynard Um - UBS Investment Bank

Presumably, a more solutions-based sale as higher gross margin across your product portfolio. You spent a lot of time transitioning your sales force to become more solutions-oriented, and presumably with services eventually being the driver to that value proposition. I'm wondering if you could just talk about how long you think it will take to transition Dell to become larger in solutions versus plain product? Or maybe put it another way, how much of revenues do you think you can generate with solutions-based in fiscal '12, including the hardware? And then my follow-up, can you just talk about your smartphone and tablet strategy, presumably that's higher-margin, how much of that is helping Consumer business, and what should we be looking forward to from Dell?

Stephen Schuckenbrock

Let me start with the services piece of that question. First of all, we really put a significant investment in place starting in fiscal year '11 where we increased the capacity of the sales force, but as importantly, increased the capability the sales force with some 115,000 hours of training, 116 new courses, certification of technical specialists across the entire product line, as well as into the services categories. And so it was a pretty significant effort, and I think you're seeing in the results, in the margin expansion and in the growth in the Enterprise business and in the growth in the solutions space overall, a real indication that these strategies are paying off and beginning to work. I hesitate to put a percentage on how much of our total revenue is going to be "solutions," but I would tell you that looking at the contribution of the Enterprise business overall, which is up 32% on gross margin year-on-year and up over 20 points of revenue year-on-year, and then watching the continued growth of our Services business will be the best leading indicators. And while I can look at Large Enterprise, and as I said on the call, we went from about a third of our revenue being Enterprise and Services to over 40% of our revenue. I think you can see that number easily get up to the 50% kind of range as we look into the future.

Michael Dell

And on a gross margin basis, I think almost 2/3 of our gross margin now comes from server, storage, network services, software and peripherals. So from that standpoint, the epicenter of the company has really shifted in terms of profitability to these other areas and away from the PC, which is now only about a third of the company’s margin. On smartphones and tablets, we were very pleased to introduce the new Venue and Venue Pro, which are Android and Windows Mobile 7 based 4.1-inch products. You'll see us enter the 10-inch tablet space, with both Android Honeycomb and Windows later on this year. And we think those will be reasonable platforms for us to participate more broadly in this space. We've also rolled out services for mobility because we see many customers really looking to integrate these mobility solutions into their environments, and that's a source of demand inside our services unit, and we're focused on helping customers address those needs.

Stephen Schuckenbrock

I think that's a really critical opportunity for us in the services space. Every customer we talk to is now looking at “how do I manage distributed compute?” And that goes all the way to smart devices. And so this past week, we announced some exciting services on application development, security and manageability of those endpoints.

Operator

Our next question will come from Shannon Cross with Cross Research.

Shannon Cross - Weeden & Co. Research

My first question is just with regard to the pushout of Sandy Bridge. We're just curious, have you seen any positive in terms of demand with people waiting for that, or has there been any hiccup?

Brian Gladden

Shannon, actually, one of the benefits of our shorter supply chain has been that we've had minimal impact to our customers. We had very little in the pipeline, and the impact for us in the fourth quarter was basically nothing. We expect no impact as well in the first quarter, and I would say that on the shipment side, as well as on the demand side.

Shannon Cross - Weeden & Co. Research

And then, Michael, I had a question for you as a follow-up to sort of the tablet question. Given you have HP [indiscernible] out there, Microsoft has now done the deal with Nokia. Can you give us a little idea of how you're thinking about sort of the OS landscape and clearly you're talking about both Mobile 7 and Android, but sort of how are you thinking about partnerships going forward? And how Dell will work with both Android and Windows, and if there is any other option that you would look at?

Michael Dell

For tablets, it's just as I said, it's Android Honeycomb and Windows, and we have customers who have a preference for either one. It's very easy for us to create platforms that share great deal of hardware commonality that can run both [indiscernible] operating system. And we're presently not considering any other options. Don't really see any other viable options that are worthy of consideration.

Shannon Cross - Weeden & Co. Research

But no change following the Nokia-Microsoft decision? That relationship remains the same?

Michael Dell

No change.

Operator

Our next question will come from Katy Huberty with Morgan Stanley.

Kathryn Huberty - Morgan Stanley

Can you just talk about revenue linearity through the January quarter and particularly what was the pace of business in the month of January versus the end of the calendar year? And then just as a follow-up, there's pretty consistently positive data points on corporate demand, but more mixed data with some of your peers in China talking about a big deceleration in PC growth this year and some U.S. retail data that has taken a turn for the worst. Are those factors you're seeing in the market? Or do you think they're temporal or specific to other vendors?

Brian Gladden

Katy, I wouldn't call it anything specific with January. We expected sort of post-holiday consumer trend that we would usually see. We've been talking about muted demand in Consumer now for two or three quarters, and we don't see anything that's changed in that regard. And as you know, that represents about 20% of our business today. In terms of the rest of the trends, we would expect to see going into the first quarter sort of the normal seasonality that we would see quarter-on-quarter and haven't really called out anything different and don't have any real specific concerns about China right now.

Operator

Our next question will come from Mark Moskowitz with JPMorgan.

Mark Moskowitz - JP Morgan Chase & Co

Steve, I wanted to come back to your comment around the elongating sales cycle. I want to see what the opportunity there as it relates to Dell could be in terms of as you guys come back here with a more focused Enterprise Solutions push, maybe a lower cost type of platform. Are you being folded into some these folks or maybe stress testing their budgets a little more? Are you seeing maybe a nice value add lower-cost platform? And how big is that opportunity for this?

Stephen Schuckenbrock

I'm trying to make sure I understand your question, but what I would tell you is that there is an enormous opportunity for Dell to do more attach of its services with hardware solutions. I'll give you some terrific examples, things we're doing with storage is an example, where we do deployment and we do this wonderful program that we're learning from our future acquisition of Compellent around Copilot and how they do the proactive management of capacity and overall load balancing services with their customers as a part of their hardware offering. It's a wonderful offering. It's something that you can see us do across our entire product line in the future. If you look at some of the new capabilities we're offering where we integrate our server, our storage and networking products and wrap that with software and bring that to the market, that offers a significant amount of services from consulting, to implementation, to helping customers with virtualization and also providing other types of services in the future that we could potentially leverage from that footprint into a cloud. And so I think there are plenty of opportunities to take advantage of the hardware business and to drive that into different types of services offerings than you might have historically seen from Dell. I'm not sure I captured the question perfectly, but if it was how do we extend off of the hardware business and do more in the services space and wrap solutions around it, we see numerous opportunities to do that.

Mark Moskowitz - JP Morgan Chase & Co

And then as a follow-up either for Michael or Brian, how should we think about the ability of Dell to really sustain this push in terms of a bigger, more powerful solution provider, just from an R&D perspective, as we see other vendors, other service providers, trying to gravitate toward the higher profit segments within IT. I presume there's going to be need for greater differentiation. I just want to get a better sense of how should we think about R&D going forward?

Michael Dell

I think in the businesses where we have 60%, 70%, 80% gross margin, you'll see us invest R&D in the 10%, 15%, 20%, revenue range. We're doing that today and that will continue.

Brian Gladden

There is a dramatic shift of where the R&D dollars in the company are going that's occurred over the last two years. And as you look at what we've done with the product portfolio and the client-side simplifying that product portfolio, leveraging our ODM relationships, we've been able to reposition significant dollars away from our client business and into the Enterprise side of our business. So there's a pretty dramatic shift in where those dollars are being spent and to Michael's point, they would be fully aligned with those products that are high margin for the company.

Operator

Our next question will come from Jayson Noland with Robert Baird.

Jayson Noland - Robert W. Baird & Co. Incorporated

An architecture question regarding large enterprise for Mike or Steve. Do you have a view on the consolidated stack versus best-of-breed point solutions? Does it matter for Dell? Or do you have a roadmap in place that you can speak with customers about?

Stephen Schuckenbrock

I think we been pretty clear that we think open wins, and we think it's really important to make sure that choice is preserved for our customers. We built a strategy around what we call open, capable and affordable, and that means that we preserve customers' choice, we innovate at every layer of the stack and we drive for total cost of ownership as the key metric that our customers care about. Now when we talk about open, it's very clear that some of our customers can benefit from how each of those layers get integrated together. And so we are offering solutions that have servers, have storage, have network capability, bundled together and can be sold as a unit to a customer and that unit can be bought in increments of, say, 50 virtual machines or 100 virtual machines or whatever the case might be, scale point nicely with the customers business. And so frankly with Dell, you can get it integrated and you can continue to preserve your choice at every layer, and we think that option and that flexibility is one of the critical things we do better than any of the competitions.

Michael Dell

I would just point out, there is something kind of wrong with some of the rhetoric that's being put in the industry. I think if you go do your own research, what you'll find is that the larger the customer -- the larger customers will absolutely tend to prefer more best-of-breed, which is served exactly the opposite of the rhetoric that you're hearing or being sold from some others in the industry.

Jayson Noland - Robert W. Baird & Co. Incorporated

And just as a follow-up there, is Dell limited at all when it comes to integrated or bundled solutions given that you partner on the networking side?

Stephen Schuckenbrock

Not at all. In fact, we do integration with our own IP as well as with partner IP today, and you can actually -- I think what's really key to us is we can in fact bring a vertically integrated solution from Dell to our customers in small, medium and large customers basis, and we can preserve the choice that our customers want to make in every one of the layers. And I think that's a unique capability that we intend to preserve because we think it's what drives the best value for them

Michael Dell

Our PowerConnect businesses is one of our fastest growing relatively new lines within our enterprise product organization. We're continuing to invest there. What we're finding is that we can in fact sell networking quite readily and quite easily with our servers and our storage.

Operator

Our next question will come from Brian Marshall with Gleacher & Company.

Brian Marshall - Gleacher & Company, Inc.

Question with regards to sort of the sustainability of the operating margin outlook going forward. If you take your guidance for revenue and operating income growth to the midpoint, it kind of implies operating margin of about 6.7%. Clearly, 8.2% was solid in Q4, and based upon the gross margin commentary for the first half of fiscal year '12, it kind of sounds like we're going to be on a downward trending trajectory for operating margins throughout the year, to get to the guidance for the year. So I was wondering if you could comment sort of the puts and takes on why the current operating margin level is not sustainable.

Brian Gladden

Our math around the midpoint it would suggest that it's up year-over-year. We have to go back and confirm that with you in terms of how you're doing that math, but we expect to see operating income continue to expand. We saw the progress in the second half of the year, and we expect it to continue to improve as we move into next year.

Brian Marshall - Gleacher & Company, Inc.

I have a quick follow-up regarding Dell DCS data center service group. Can you talk a little bit about maybe the size on an absolute level of this group. We've heard some pretty positive commentary out there with some of the large customers and then maybe a little bit on the margin profile here and your strategy going forward?

Stephen Schuckenbrock

I don't think we're talking about size in terms of revenue and margins specifically at DCS, but I can tell you that the business continues to expand. And as we disclosed in the past, it's 21, it's now 22 of the top 25 clouds in the world. We believe we continue to take share in this space. And margins have continued to improve throughout the year, and in fact, we see pretty positive momentum as we transition into next year. So without giving you specific numbers in terms of size or revenue or number of units, et cetera, I think we continue to be quite bullish in the DCS business overall.

Operator

Our next question will come from Chris Whitmore with Deutsche Bank.

Chris Whitmore - Deutsche Bank AG

I wanted to follow up on a previous pricing and margin question. I'm curious as to why you believe competitors haven't been more aggressive in pricing given the weakness in the consumer PC market and soft commodity prices. Why aren't competitors more aggressive?

Brian Gladden

I mean, we're not going to comment on what competitors are doing. It is a competitive marketplace. There clearly are opportunities to grow, and our business is well positioned in those opportunities. And as I said, I think it was a reasonably favorable competitive market that we've seen, and we're hopeful that, that continues.

Chris Whitmore - Deutsche Bank AG

And to be clear, your guidance implies competitive market gets more aggressive going forward, is that correct?

Brian Gladden

I think what we said is we've got optionality in terms of how we manage the P&L. We've got good pricing disciplines in place, we've got a lot of aggressive work around cost. And I think given all that, we feel comfortable that we can continue to drive operating income expansion.

Chris Whitmore - Deutsche Bank AG

Finally, on the tablet and smartphone space, do you think your supply chain will transfer well to this form factor given the components are very different, NAND, for example, touch screen, et cetera. Do you think your supply chain transfers and you can generate incremental contribution margins in this segment?

Stephen Schuckenbrock

That's absolutely our plan, and certainly as we've understood the space and what others have done there, we believe we can enter this space and do it in a way that contributes to our profits.

Operator

We'll now take our final question from Louis Miscioscia with Collins Stewart.

Louis Miscioscia - Collins Stewart LLC

Just a clarification on the operating margins. I believe when you're talking about that, you're talking an annual basis, not a sequential basis for improvement, correct?

Brian Gladden

That' right.

Louis Miscioscia - Collins Stewart LLC

The services side, Steve, one of the things I think that concept was in maybe buying Perot is hopefully you would get some hardware pull-through. Can you talk about that, whether you're actually seeing some pull-through and is it material yet or do you still expect that sometime in the future, and one more services question for follow-up.

Stephen Schuckenbrock

First, yes, we are seeing hardware pull-through. We're solutioning Dell hardware and Dell reference architectures into our core service offerings when we compete for bids in the marketplace. And so, yes, is the answer to your question, we are seeing hardware and solutions pull-through and quite excited about it. Some of the advantages that, that gives us.

Brian Gladden

And we have better set the expectations around that in the first year of integration.

Louis Miscioscia - Collins Stewart LLC

Did you say the services signings were up 17%? And if so, maybe if you could just point which part of services and maybe if you can give us some thoughts on the whole year. Did that just kick up recently in the first through third quarters were a bit softer than that?

Stephen Schuckenbrock

No, what I said is the new logo signings, the new customer signings, brand-new Dell Services customers is up 17% on a year-on-year basis. We've added some significant new customers to our list. Now we're seeing those relationships expand. I just had the opportunity to spend a fair amount of time with those customers and we’ll tell you we're off to really good start, which is the critical phase of any of these relationships is to get out of the blocks well. And we are getting out of the blocks very well with those customers. The pipeline continues to expand. I think what you see us do is more aggressively qualify that pipeline because I think some of the elongated sales cycle issue is the result of chasing a lot of things. And so we'll narrow down the focus to those things that are right in our wheelhouse that we know we could win, and I think you'll see a lot of progress in that regard as we move forward.

Michael Dell

Thanks, everyone. We look forward to sharing our Enterprise Solutions and Services strategy progress with you in the coming quarter and year. Take care.

Operator

This concludes today's Conference call. We appreciate your participation. You may disconnect at this time.

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