With Accounting Issues Resolved, Dell Must Focus on Consumer Business

| About: Dell Inc. (DELL)
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Dell (DELL) has climbed out of accounting purgatory, officially restated more than four years of financial results and put an ugly chapter behind the company. But none of those moves fix a reeling consumer business.

First the details: Dell filed its restated results with the Securities and Exchange Commission for fiscal years 2003 through 2006 and the first quarter of fiscal 2007 (company statement). In total, $92 million in profit was cut over the last four years and numerous accounting misdeeds were detailed. For those of you who like reading SEC filings you have a few days of work ahead. The upshot: Dell is in compliance with Nasdaq listing requirements, can meet with shareholders on December 4th and can talk strategy with analysts and the press again when it reports earnings.

None of that was unexpected and Wall Street analysts across the board are ready to move on–even though there are outstanding investigations with the SEC still underway.

What is notable, however, is that Dell’s consumer business is a train wreck and it remains to be seen whether fancy colors on laptops can pull the business out of its tailspin.

In Dell’s quarterly SEC filing for the three months ended August 3rd, the company outlined that its consumer business accounted for $1.3 billion, or 9 percent of total revenue. The issue: For the corresponding period in 2006 the consumer business accounted for 12.6 percent of revenue or $1.78 billion. For fiscal 2007, Dell’s consumer business was $7.06 billion, or 12.3 percent of sales, down from $7.96 billion (14.3 percent of sales) in fiscal 2006.

Dell says in its filing:

U.S. Consumer revenue declined 27% and 26% year-over-year in the second quarter and first six months of Fiscal 2008, respectively. The significant decline in U.S. Consumer revenue is due to competitive pressure and continuing decline in desktop revenue. Desktop shipments decreased 36% in the second quarter of Fiscal 2008 and 47% for first six months of Fiscal 2008 as compared to the same periods in the prior year. Our U.S. Consumer business continues to face a competitive pricing environment. Mobility revenue declined 36% for the second quarter of Fiscal 2008 on a unit decline of 38% and declined 32% on a unit decline of 39% for the first six months of Fiscal 2008, while the industry-wide consumer mobility sales in the U.S. grew 26% and 24% during the second quarter and first six months of Fiscal 2008, respectively. The demand for our products deteriorated due to price competition and decreased product appeal. This environment has led the U.S. Consumer business to update its business model and enter into a limited number of retail distribution arrangements to complement and extend the existing direct business. We are also investing in initiatives that will align our new and existing products around customers’ needs and wants in order to drive long-term, sustainable performance. Our investments have resulted in better than expected demand for certain of our Inspiron and XPS notebooks.

UBS analyst Ben Reitzes says that Dell’s disclosure may shock a few folks.

The company’s consumer business (about 9% of sales) has continued to feel significant profit pressures even though we thought Dell was exiting many unprofitable transactions. Consumer segment’s operating profit dropped from 5.7% in FY06 to 1.9% in FY07, with an operating margin of -0.7% for the most recent July quarter. While we have been highlighting Dell’s challenging consumer business for years, we believe the disclosure in the restated financials of intensified profit pressure may surprise some investors. We look forward to hearing how Dell can turn this segment around and why it actually got worse in recent quarters and not better, when it seems that both the component and ASP environment were more benign.

There is good news, however, Dell will actually answer Reitzes’ question now. With the accounting restatements behind it the company won’t be able to clam up any longer.