Dell Sees Profits Jump, Revenues Slow Amid Transition

Dell's transformation into an infrastructure solutions and services vendor is fueling fewer sales, but more higher-end deals.

Dell is a company in transition during a time of significant economic turmoil, and the results are showing in its financial numbers.

Dell executives on Aug. 16 announced a second-quarter profit jump of about 63 percent, to $890 million, up from $545 million during the same period in 2010. That profit growth came on revenues of $15.7 billion, which was only a 1 percent increase over the second quarter last year.

Dell CFO Brian Gladden said those numbers were the result of the company's efforts to aggressively grow its data center solutions and services portfolio that encompasses not only higher-end servers, but also storage, networking and services. This is happening as Dell looks to streamline lower-end businesses, such as PCs and consumer electronics, and reduce the amount of technology it sells from third-party partners, such as storage giant EMC.

Customers are having to adjust to the changes in Dell's portfolio, but even as they may be buying fewer items right now, what they are buying are higher-priced products. Those products are coming from a mixture of in-house development and outside acquisitions, such as Dell's most recent purchase of storage vendor Compellent Technologies earlier this year and the announcement in July of its intentions to buy networking company Force10 Networks.

Dell is making the moves to grow into more of a solutions-driven vendor that can compete against the likes of Hewlett-Packard, IBM and Cisco Systems and take advantage of the demand from enterprises for more converged infrastructure offerings.

The result of all this is higher operating expenses and lower than normal revenues in the short term, but it also will mean greater profits now and down the road for Dell, according to Gladden. That's a trade-off the company is willing to make, he said.

"We're committed to this long-term transformation," he said during a conference call with analysts and journalists. "We're going to continue to make these long-term investments."

Greg Richardson, an analyst with Technology Business Research, said the strategy is showing some results.

"Dell is leveraging acquisitions to transform from a vendor of high-volume compute products to a provider of enterprise-focused solutions, spearheaded by services," Richardson said in a research note. "Dell's aggressive pursuit of inorganic growth is beginning to bear fruit in the form of increased profitability."

Richardson said he expects Dell to continue rounding out its portfolio through acquisitions that will help it gain greater cloud and vertical-market capabilities to complement its efforts in areas such as storage and networking.

Gladden and Brad Anderson, senior vice president for Dell's Enterprise Solutions Group, said the company's focus on the midmarket, next-generation computing, intelligent data management, services, security and cloud computing is pushing the shift in customer buying toward higher-end products. The result is strong numbers for the company's enterprise business, with enterprise solutions and services revenue increasing 4 percent, to $4.6 billion.

The moves make sense, TBR's Richardson said. He noted that as Dell has moved to end its relationship with EMC, overall storage revenues for the quarter fell 20 percent. However, the prospects for long-term storage revenues look good, he said, pointing out that revenues for Dell's own storage products increased 15 percent.

"By holding the reins to storage technology development, Dell controls more of its storage development roadmap, enabling the company to foster integration between its storage and compute portfolios, leading to cross-selling opportunities," Richardson wrote. "TBR expects Dell to generate near-term storage revenue momentum by remaining true to its roots, supporting midmarket deployments in industries such as the public sector in which it has strong traction, while laying a trajectory to future growth by establishing proof points of its capabilities to penetrate new verticals, such as financial services and telecommunications."

However, as Dell undergoes this transformation, it also has to deal with the fallout from the troubled economic environment, particularly in the United States and Europe. While corporate sales are strong, consumer demand for Dell products are slowing, and business with the U.S. government is uncertain. Given all that, Dell executives cut their full-year revenue estimates to 1 to 5 percent growth, down from the 5 to 9 percent they earlier had projected.

"It's clear the demand environment is weaker than expected," Gladden said.

He said Dell had a lot of deals with the U.S. government in the works, but that company officials are unsure how many of those deals they'll be able to close, particularly in light of the political environment in Washington, D.C., highlighted by the recent prolonged battle over the debt ceiling and spending cuts.