Dell Technologies (NYSE: DELL) saw its share price fall as much as 14% on Friday after reporting that softer server sales led to lower than expected revenue growth. The company’s 1st quarter EPS beat estimates, but revenue was $240 million lower than expected, and just 2.2% higher than the 1st quarter of last year.
This was the second time Dell has reported since returning to the public markets in December. Since its IPO the stock price has risen 66% as increasing numbers of analysts re-initiated coverage.
Adjusted EPS of $1.45 was well ahead of the $1.16 consensus estimate, but the market focused on the revenue figure which came in at $21.9 billion. Dell is the latest in a long list of hardware businesses to be hit by slowing demand for servers. Although revenue growth was disappointing, Dell did swing back to a profit, with quarterly net income of $293 million versus a loss of $636 last year.
PC Sales Still Going Strong
While the server business suffered, the PC business benefited from Microsoft’s plans to phase out of Windows 7 support which prompted customers to upgrade their PCs.
The Client Solutions Group, which includes desktop PCs, notebooks, and related hardware, saw a 6% year-on-year uptick in revenue. This was also better than analysts had hoped for. Commercial revenue from the group grew 13%, while consumer revenue fell 10%. The operating margin for the group was 7%.
The Infrastructure Solutions Group, which includes servers, networking products, and storage, saw revenue decline by 5%. The demand slowdown was most notable in China. While servers and networking revenue fell 9%, storage also fell 1%.
VMware, the software virtualization company of which Dell owns 81%, saw revenue growth of 13% and generated an operating margin of 26.9%. The unit that now accounts for around 10% of total revenue also reported its 1st quarter earnings yesterday.
There Are Two Sides to the Dell Story
Dell’s stake in VMware means there are two sides to Dell as an investment. On the one hand, we have the legacy PC, server, and storage business. Dell is a well-known brand with substantial market share – but growth is pedestrian, and margins are low.
On the other hand, its stake in VMware is worth far more than Dell’s own market value, suggesting an obvious opportunity. Dell has a market cap of $47 billion, while it’s 81% stake in VMware is worth $58 billion, though it also has debt of about $40 billion.
If VMware continues to grow and contribute more to Dell’s earnings, and if interest rates remain low, the investment will pay off. If, however, VMware stumbles, Dell’s debt will become a problem. This makes Dell a high beta play on the tech sector.
Given the slowdown in server sales, uncertainty is warranted, but may also offer opportunities. Dell may be best viewed as a trading play, using sentiment and technical levels rather than trying to guess where the fundamentals are headed. Friday’s low of $57 is turning into a key level, If a base forms there, traders can use it as an inflection point to trade off.