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Dismal 3Q for Dell

CSCO

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Dell Inc. delivered third quarter 2013 earnings of 39 cents per share in the third quarter of 2013, in line with the Zacks Consensus Estimate. The quarter’s earnings were, however, 28.0% lower than the prior year level.

The disappointing result was mainly driven by lackluster PC business. Dell is making considerable efforts to shift its focus from the legacy PC business to higher-margin enterprise services, stiff competition in the hardware and software businesses is posing the biggest challenge for the company.

Revenues

The company reported revenues of $13.7 billion in the reported quarter, which tumbled 10.5% on a year-over-year basis. The decline in revenue was due to lower contributions from all the business segments.

Revenue by Segments

Large Enterprise posted revenue of $4.2 billion, down 8.0% year over year, due to pricing pressure from the client side.

Public Revenue was $3.8 billion, down 11.0% year over year. The company continues to witness a slump in the U.S. Federal business. Moreover, the company witnessed significant reduction in consumer spending in the month of October. The company also continues to see budgetary constraints with respect to spending by Western European governments.

Small and Medium Business revenue inched down 1.0% to $3.3 billion. Within the SMB segment, the company witnessed Enterprise Solutions and Services growth of 15.0%, including 22.0% growth in Services, while servers and networking grew by 16%.

Consumer Business revenue plummeted 23.0% to $2.5 billion. Within this segment, industry growth continued in the low-value and entry-level desktop and notebooks while the company maintained its participation in the tablet business.

Operating Results

Gross margin in the reported quarter declined to 20.9% from 22.6% in the year-ago quarter.

Operating income for the quarter was $589.0 million or 4.3% of revenues in the reported quarter, down 48.0% year over year, hurt by higher rate of expenses growth than revenue.

GAAP earnings in the quarter were 27 cents per share compared with 49 cents a share in the year-ago quarter. Excluding special items like amortization of intangibles, severance and facility consolidation cost, acquisition-related costs, as well as income tax adjustments, earnings per share in the quarter came in at 39 cents versus 54 cents in the year-ago quarter.

Balance Sheet & Cash Flow

The company exited the quarter with cash and cash equivalents of $10.9 billion, down from $11.5 billion reported in the previous quarter. Moreover, Dell’s cash conversion cycle of negative 32 days, improved 2 days sequentially, as a result of better inventory and receivables management.

Guidance

The company expects the global macroeconomic challenges to continue in the fourth quarter of 2013, and hence expects revenue to grow 2.0% to 5.0% sequentially. For the full year, the company expects EPS to be roughly $1.70 on a non-GAAP basis.

Our View

Dell reported mediocre third quarter results with earnings per share in line with the Zacks Consensus Estimate, but revenue and operating income taking a massive hit. Revenue across the entire business segment declined annually.

The major issue faced by the company is the cannibalization of the PC/notebook business. Moreover, the company is facing tough challenges due to cut-throat competition, low business growth in Europe and restricted spending environment. Some analysts also expect further decline in PC shipments.

Moreover, competition faced by the company in the SMB and server segments from players like Hewlett-Packard Company (HPQ) and Cisco Systems Inc. (CSCO - Analyst Report) is also a concern.

The stock has a Zacks #4 Rank, implying a short-term Sell rating.

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