Mathew Ingram: Favourite computer firm temporarily loses mojo

For at least the past five years or so, anyone taking a look at the personal computer business could be confident of one thing: no matter how badly Hewlett-Packard screwed up, no matter how low Gateway sank, no matter how slow-footed or incompetent IBM was, one PC manufacturer would always stand head and shoulders above the rest, turning in quarter after quarter of dependable growth: Dell Computer.

Of late, however, the Texas-based company's halo has been looking a little the worse for wear. Some are even questioning whether the age of Dell has come to a close.

In its latest quarterly outlook, the company (now known as Dell Inc) warned its profit would come in at the low end of expectations, even after excluding a one-time charge for some faulty parts in one of its product lines. Sales were also at the low end of estimates, and analysts noted that Dell's market share grew more slowly in the quarter than in the past - and also more slowly than either the PC sector as a whole or some of its main competitors, such as Hewlett-Packard.

Instead of the profit of US40c a share most analysts were expecting, Dell said it would hit 39c, after excluding $450 million worth of special charges. Projected revenue for the quarter of $13.9 billion was also below the consensus forecast of $14.3 billion.

This could have been dismissed as a one-quarter miss were it not for one thing: Dell came up short of consensus estimates in its previous quarter too. One quarter might be an accident, but two in a row and investors could be forgiven for wondering whether there isn't a bit more to the story, particularly since the PC market seems to be growing fairly strongly.

After its warning, Dell's stock sank about 8 per cent and shares have already fallen by more than 30 per cent over the past several months, as the market deals with the unexpected underperformance of its favourite PC maker.

Dell blamed its revised estimate on lower sales in the US and Europe, but several analysts said the real culprit was lower prices. The price and market-share pressure has been coming from the company's traditionally weak competitors - primarily Hewlett-Packard and IBM, which sold its PC division to China's Lenovo Group - as well as low-cost Asian manufacturers such as Acer.

Analysts said Dell was forced to walk a fine line: cutting prices to match competitors eats into profit, but trying to maintain higher margins can lead to lower sales and a loss of market share.

In the past, Dell could always count on HP to perform poorly, in part because it was preoccupied with the aftermath of acquiring Compaq. Gateway, founded at about the same time Michael Dell started selling computer parts out of his university dorm room in 1986, had ceased to be much of a competitive force and was stumbling from one restructuring to another. And IBM was focused on selling high-end services to corporate customers and had more or less given up on the PC business.

Unfortunately for Dell, however, HP has become stronger and is putting pressure on a number of areas - particularly laptops. Gateway, which merged with eMachines, is targeting the lower end of the PC market, as is Acer, and Lenovo Group has been pushing IBM back into the forefront, and is also keeping pressure on prices.

Cindy Shaw of Moors & Cabot Capital Markets said, "Dell is still trying to find a formula that works in a new world order", and she believes the company may have "at least temporarily misplaced its mojo".

Another factor acting against Dell is that with $60 billion in revenue and more than 18 per cent market share, the company is already so huge that growing at the kind of rate it has in the past is getting harder.

Andrew Neff of Bear Stearns said that Dell's "increasing size and multiple moving parts inhibit its ability to react", while Jason Maxwell of TCW Group said that at Dell's current size, "it's difficult for any organisation to grow at high rates, so now you see the top-line growth rate coming down".

But Dell is hardly on the ropes. Its major strength is still the unparalleled efficiency of its just-in-time manufacturing operation, which keeps less inventory and turns around a PC faster than its competitors. Being direct-order only also keeps costs low - although many wonder whether this doesn't hurt Dell, as it doesn't get access to the kind of retail shopper Gateway or HP does, and it doesn't have the design cachet of a firm like Apple.

No one is saying that Dell should be written off. Far from it. But more and more analysts are saying investors might want to lower their expectations or get used to disappointment.