Dell Struggles in Post-PC World

The computing market is headed where Dell Inc. is weakest. The company has no easily recognizable offerings in the tablet PC or smartphone markets, but that's where demand is booming and not in the consumer and enterprise computer segments Dell once dominated and where it is still one of the leading players.

Dell isn't alone. Many other PC manufacturers that have yet to find their footing in the new world of small format computing are facing a similar problem -- how to maintain product relevance in a market fascinated with tablets and smartphones and dominated primarily by Apple Inc. (Nasdaq: AAPL) and Samsung Electronics Co. Ltd. (Korea: SEC). Aside from these two rivals, the other competitors in the tablet and smartphone markets are hanging on tightly to wafer-thin market shares, fueling speculation that some of these may have to exit the sector to stop losing money.

It's not that Dell is losing money. The company has too many other competitive products to slide into the red simply because of declining demand for PCs from consumers and corporate buyers. For the fiscal 2013 first quarter ended May 4, Dell reported net income of $635 million, down from $945 million in the year-ago quarter. Sales fell 10 percent on a sequential basis and 4 percent year-over-year, to $14.4 billion from $15 billion in the first quarter of fiscal 2012. The decline was a surprise to both investors and even Dell executives who attributed it to poor sales execution, a weakening global economic environment, and pressure from competing platforms, essentially tablets and smartphones.

Brian Gladden, Dell's CFO explained further during a conference call with analysts:

There are a few key causes to the [revenue] shortfall. Our sales execution was not up to our expectations, and we've made changes to improve this as we head into the second quarter. The demand environment was tougher than we planned, and I'd specifically highlight weaker demand in markets like EMEA and parts of Asia, in addition to public markets.

Finally, we're seeing a more challenging competitive environment in a few areas of the business. Our notebook business contracted 10 percent, as we saw a more aggressive competitive environment, particularly in the entry level and emerging markets. We believe some of the tougher competitive environment can be attributed to channel inventory rebuilding, following the hard disk issues of the past two quarters. In addition, we're seeing more consumer IT spending diverted to alternative mobile computing devices. These dynamics impacted both our revenue and margins for the quarter.

As rising sales of tablet PCs and smartphones eat into demand for personal computers, manufacturers that don't have a strong position in the hotter product sectors have engaged in a savage PC pricing war to gain market share. Gladden said Dell was concerned "about the impact of the competitive pricing environment" but the company isn't in a strong enough position to withstand the onslaught. It has no compelling tablet or smartphone offering to rival Apple's iPad/iPhone or the Galaxy smartphone from Samsung. To keep its market share, Dell may have to dive again into the low-end PC market, an area it previously shunned to stave off downward margin pressures.

If Dell and rivals in the same position are expecting any relief from corporate IT spending, they should rather brace for a further pounding. Although enterprise IT requirements are typically different than those of the consumer electronics market, the dividing line is beginning to blur slowly. Enterprise users are transitioning more functionalities to tablets and largely ignoring desktop PCs. While demand for notebooks is expected to remain strong for a while, many companies are exploring the utility of tablets for workers, especially those in sales for whom mobility, ease of use, and graphics are highly important.

Dell executives insist they aren't too worried about sales erosion in the enterprise PC market. I think they should be. While tablets may not completely replace notebooks for some users, they are being used as supplementary devices and therefore reducing the amount companies can spend on other IT equipment. Said Stephen Felice, president and chief commercial officer at Dell:

Consumer spending on desktops and notebooks continues to be under pressure, and much of the growth in Consumer has migrated to entry-level products in emerging markets, where we've chosen not to participate. We're also seeing some IT spending prioritized to purchase other mobile devices. Now this is mostly a consumer dynamic, but there is clearly some impact in areas of commercial as well.

While Dell is obviously unable to walk away for now from the PC market, it is intensifying efforts and broadening offerings in the fast-growing tablet sector. Again, it's not alone, and the tablet market is getting as crowded as the PC market once was. And that's a problem.