Dell sees costs hitting profit, shares drop 10 percent

SAN FRANCISCO Thu Nov 29, 2007 7:44pm EST

Dell founder Michael Dell in a file photo. The world's second-largest personal computer maker reported a rise in quarterly profit on Thursday as it sold more laptops and component prices fell. REUTERS/Bobby Yip

Dell founder Michael Dell in a file photo. The world's second-largest personal computer maker reported a rise in quarterly profit on Thursday as it sold more laptops and component prices fell.

Credit: Reuters/Bobby Yip

SAN FRANCISCO (Reuters) - Dell Inc reported lower-than-expected quarterly profit margins on Thursday and warned that rising costs could depress future results, sending its shares down 10 percent.

While the world's second-largest personal computer maker earned more revenue than expected and booked 27 percent profit growth, investors zeroed in on the costs and cautious outlook.

Chief Executive Michael Dell, leading a restructuring of the company he founded, spoke of "winds of caution in certain financial customers" despite good demand overall.

Net income for its fiscal third quarter ended November 2 grew to $766 million, or 34 cents per share, from $601 million, or 27 cents per share, a year ago. The gross profit margin slipped to 18.5 percent from 19.9 percent the quarter before.

"We'd like to see the expense side improve faster than it is," said Brent Bracelin, an analyst with Pacific Crest Securities who has an "outperform" rating on Dell shares. "The disappointment here is that you didn't see a follow-through of revenue upside to earnings upside."

Revenue rose 8.5 percent to $15.65 billion, topping the average analyst forecast of $15.36 billion, according to Reuters Estimates. But operating expenses surged 24 percent.

Dell booked costs of $50 million, or 2 cents per share, related to job cuts and asset disposals, plus $28 million, or 1 cent per share, for a year-long accounting audit.

Several analysts said Dell's earnings were in line with expectations after factoring out one-time items, but unimpressive given the strong revenue performance.

"The bottom line is that people were disappointed," said Roger Kay, president of Endpoint Technologies Associates of Concord, Massachusetts. "People expected more than they got."

Revenue from servers used by businesses to run networks and corporate Web sites rose 8 percent to $1.6 billion. Revenue for data-storage systems also rose 8 percent, to $600 million.

Laptop computer revenue rose 19 percent to $4.7 billion while desktop revenue fell 1 percent to $4.8 billion.

ASIAN RIVALS

Industrywide, global PC shipments grew 16 percent in the third quarter, helped by rising notebook sales at retailers outside the United States, researcher IDC said in October. Dell is facing increasing competition from Asian rivals including Acer Inc and Lenovo Group Ltd in the United States, which accounts for the majority of Dell's sales.

The company, hoping to compete better with larger rival Hewlett-Packard Co and the Asian competitors, in June began selling PCs in stores for the first time after 23 years of direct-only sales via phone or Internet.

It has started selling PCs in Wal-Mart Stores Inc in North America and GOME Electrical Appliances Holding Ltd in China, and announced this week plans to sell computers in France, Spain and Belgium through France's Carrefour SA, the world's second-largest retailer.

Like rivals, Round Rock, Texas-based Dell has been helped by falling prices for components such as computer memory and by strong PC demand in U.S. back-to-school sales and pre-holiday gift spending.

But Dell said restructuring costs related to ongoing job reductions, investments in the business and acquisitions "may adversely impact the company's performance."

Also, a slowing decline in component costs and a seasonal product-mix shift to U.S. consumer and international regions may hurt results, Dell said.

Michael Dell, speaking to analysts after the earnings report, said the company had seen "winds of caution in certain financial customers, but I'd say demand has been pretty good." Dell earns about 85 percent of revenue from business customers, including banks hurt by the U.S. housing recession.

Chief Financial Officer Donald Carty said Dell was sticking to its target of cutting 10 percent of staff, but added: "We expect in a number of areas to have a lot of growth in the business as well."

Dell shares fell 10 percent to $25.31 in extended trading, after adding 1.6 percent to close at $28.14 on Nasdaq.

The stock, up 10 percent in 2007 through Wednesday, had been trading at 19 times estimated earnings per share for its fiscal year ending in January, compared with 17 for HP's fiscal year ended in October and IBM's 2007 multiple of 15.

(Additional reporting by Lisa Baertlein and Nichola Groom in Los Angeles; Editing by Braden Reddall)