November 10, 2005 3:47 PM PST

Dell earnings get dinged by PC problems

Dell, whose direct-delivery model for years helped it grow faster than the overall PC market, said on Thursday that its quarterly profit fell amid repair costs for faulty parts in business computers and expenses for layoff severance and consolidation.

For fiscal third quarter ended Oct. 28, Dell's net income fell to $606 million, or 25 cents per share, from $846 million, or 33 cents per share, a year earlier, the company said in a statement.

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Dell CEO Kevin Rollins talks to reporters about lackluster sales in the U.S. and U.K.
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Cash flow from operations was $1.1 billion for the quarter and $3.3 billion year-to-date. Dell ended the quarter with $12.3 billion in cash and investments.

The Round Rock, Texas-based computer maker's revenue for the quarter was $13.9 billion, which was in line with its Halloween warning that it would not hit higher estimates. Back at the end of the second quarter, the company had forecasted third-quarter revenues of $14.1 billion to $14.5 billion.

"We are disappointed that we didn't hit all of our numbers for the quarter, but we're always looking for better ways to improve the efficiencies of our business," said Dell CEO Kevin Rollins during a conference call with the press.

Rollins admitted that Dell's sales teams were too aggressive in selling computers at a discount--$400 laptops and $300 desktops in some cases. But going forward, Rollins said the company would keep costs in line and focus on a balance of product pricing, including a newly launched XPS brand of premium PCs.

Part of the large revenue decline was due to $450 million in unexpected charges.

Dell spent $50 million on severance packages and $25 million to consolidate office space after using performance-based attrition to eliminate about 1,000 employees in Texas, the United Kingdom and Asia, Rollins said.

The other big cost--$307 million--will come from sending out service workers to fix OptiPlex systems with faulty capacitors, which has become a costly headache for other manufacturers as well.

The company also wrote off $29 million in good will.

Dell said it managed to eke out a 36 percent increase in enhanced services revenue, reaching $1.2 billion from $1 billon last year; a 35 percent increase in storage revenue to $500 million from $300 million; and a 16 percent increase in server revenue to $1.4 billion from $1.2 billion.

As a server supplier, Dell said it was particularly excited by the addition of multicore Intel Xeon processors for two- and four-way servers, which it said would enhance its ninth-generation server products coming next year.

Still analysts are not convinced that Dell's problems are solely the result of defective parts or not being able convince customers to upgrade to more expensive products.

"We think Dell has been too focused on perfecting its existing model instead of adapting it to a changing environment," Moors & Cabot analyst Cindy Shaw said in an investor newsletter.

"Industry sources tell us there have been few major changes to Dell's model over the last five years. During that time, vendors such as Hewlett-Packard, Lenovo, Acer and Gateway have become more competitive and narrowed price gaps," Shaw said.

Dell's revenue growth for six straight quarters has been on the decline as it aggressively cut prices and faced tougher competition from HP, Apple Computer and other rivals.

"One thing that is challenging Dell is its strategy towards higher-end products," said Sam Bhavnani, a senior analyst with research firm Current Analysis. "This strategy is happening while pricing for hot categories such as notebooks is falling rapidly.

"Dell's notebook average selling-price has fallen 35 percent in the last year. So, while Dell has had trouble hitting its numbers in recent quarters, it does have promising outlook in new product categories, such as printers and televisions," he said.

The company also spent $1.4 billion to repurchase 41 million shares during the third quarter. Year-to-date it has repurchased almost 140 million shares, it said. The company said it plans to repurchase at least $1.7 billion more in stock during the fourth quarter.

Dell forecasted fourth quarter revenue of $14.6 to $15 billion and earnings per share of 40 cents to 42 cents.

Reuters contributed to this report

 

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