Thursday, February 01, 2007

Color on news: Dell (NASDAQ:DELL)

Several upgrades and positive comments on Dell (NASDAQ:DELL) this morning after news that Michael Dell will assume the duties of CEO, effective immediately:

- JP Morgan is upgrading Dell to Neutral from Underweight saying their bearish thesis on the story had been predicated on a change in the business leadership structure at the company, and they believe this announcement begins to address this issue.

Dell expected to miss January quarter consensus revenue and EPS estimates. Firm's prior estimates of $0.31 on revenues of $15.36 billion were below consensus, based on fundamental concerns that overall gross margins, relative growth in PCs, and Dell's enterprise business could disappoint in coming quarters. After a brief honeymoon period, they believe fundamental concerns will return to the story. In addition, the firm continues to believe the investigations into Dell's accounting practices remain a key unknown that investors should monitor.

For the December quarter, they now expect revenues of $15.10 billion and EPS of $0.29 down from $15.36 billion and $0.31. For fiscal 2008, they forecast revenues of $59.68 billion and EPS of $1.23 versus $60.65 billion and $1.29 previously. They caution that the lack of details in Dell's preannouncement suggests that estimates and consensus may need to come down further once the company reports results.

- Merrill Lynch is upgrading DELL to Buy from Neutral saying Michael Dell's resumption of the CEO role and Kevin Rollins' resignation indicate a new level of board commitment to serious change at the company. They expect more aggressive efforts to lower the cost structure ahead. Dell's high exposure to the corporate PC market should swing from a fundamental negative to a positive as the corporate PC market slowly shifts out of a multi-year slump into a Vista-led upgrade cycle in C2008

Firm believes investor sentiment, which is justifiably negative, is unlikely to deteriorate further. The weak January quarter has been anticipated for weeks and the company's admission that results will miss consensus should take the punch out of anything but an extreme miss when full results are reported in a few weeks. Moreover, the notion that historic advantages of the direct model have weakened, though accurate, is now part of the consensus view.

According to the firm the risk to their call on Dell is that execution in the next 2-3 quarters could be inconsistent, potentially creating stock volatility. Nonetheless theysuggest investors use any weakness to build positions as evidence for revenue and margin recovery should become more apparent to the market in 6-12 months as we approach a 2008 corporate PC upgrade cycle. By the time investors are widely confident about improving prospects, the stock will have moved.

- UBS notes that while they believe this evening's announcement will likely be viewed as a near-term positive by some investors, they believe the management changes at Dell were likely fueled by a string of recent disappointments and tough fundamentals, punctuated by the 4Q07 revenue and EPS shortfall that was also announced this evening. Firm notes that several times last year in the press, Michael Dell defended Rollins' skills and stature at the company, which could imply that just recently challenges have escalated to a level where such a drastic change was needed.

Despite Michael Dell returning to CEO, the firm continues to believe that it will take a long time for him to implement changes and realize sustainable improvements. Under a new CEO, they would not be surprised to see the company announce a formal restructuring plan within a few months and additional cost reduction initiatives in the coming month to help improve profitability and drive sustainable improvements. So far, "Dell 2.0" is not a clear enough plan with real tangible financial targets for the firm to get excited. UBS believes Dell's reappointment to the CEO position was likely fueled by a string of disappointing results, punctuated by a major 4Q revenue miss.

During their career, the firm has seen many examples of highly regarded former CEO's coming back to lead companies after a successor's failure, only to be met with further challenges (Xerox in 2000 comes to mind). In short, Dell is not out of the woods yet and Michael will be tested perhaps as he never has been before in his career. They believe Dell needs to quickly outline a credible turnaround plan and rectify issues with the SEC and justice department (these are not small tasks).
Maintains Neutral.

Notablecalls: Not actionable but good to know category.

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