Dell Inc. (DELL) reported that it beat its second quarter earnings estimates after the market closed on August 16th, but lowered its revenue expectations for the remainder of the year, causing its shares to drop about 8 percent after the announcement. Dell became a successful company because of its effective supply chain management and online sales, but competitors have caught up to them over the past few years. In this article, I explain why Dell shares may continue to fall as there are much better investments to be made in the modern technology industry.
Dell’s improved earnings arose from increased sales to corporate and government clients who now generate almost 80 percent of its revenue. However, a lower revenue outlook comes from analysts expecting a weaker market, a lower market share, and lower margins for Dell, which will all hurt earnings in the long term. Dell is only expecting a revenue increase of 1 to 5 percent for the current fiscal year, which is much lower compared to competitors like Apple (AAPL). The technology industry is still growing and Dell is beginning to lose its competitive edge.
There are much better investment options in technology such as Apple and Google (GOOG), who both have much higher revenue and earnings growth estimates and trade at fairly low earnings multiples of 15 and 19.4, respectively. Microsoft (MSFT) trades at a similar P/E ratio too, and is expected to have significant earnings growth over the next few years while Dell’s earnings will stagnate. Current earnings estimates expect Research in Motion’s (RIMM) earnings to grow (although these estimates will probably be downgraded soon) and RIMM has a P/E ratio that is about half of Dell’s.
To become a good investment opportunity once again, Dell has to make some strong strategic moves. This may involve downsizing, spinning off divisions whose combined operations do not create synergies, and redefining its brand. It needs to make more reliable products and improve its customer service before it can even hope to successfully compete with the quality of Apple. To compete with the price of Asian manufactures, it has to lower its components expenses and find ways to cut down on other costs.
Dell became a profitable company because its just-in-time inventory system allowed it to reduce costs and sell electronics for lower prices at a higher profit. Just-in-time inventory and strong supply chain management are now a part of every electronics company and Dell must begin to innovate in new ways to maintain a competitive edge.
The news of Dell’s lowered revenue outlook caused Hewlett Packard (HPQ) shares to drop by 1.4 percent in the beginning of afterhours trading, with analysts expecting them to be in a similar disposition to Dell after it announces earnings on August 18th. HP and Dell have a lot of similarities and I would not be surprised if investors avoid HP as well. It will be interesting to see if these two technology giants have any growth potential left, or if they will slowly fall to competitors.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
