Michael Dell is not been spending the same amount of time contemplating his navel as he did a few years back, immediately before the tech company that bears his name hit a rough patch and he returned to straighten things out.
Dell and his top brass do, though, spend a lot of time thinking about the belly of the IT market – invariably called the midrange or the midmarket and a place where they think they can grow their server, storage, and networking lines and dominate with PCs and other client devices in the coming years.
Team Dell outlined its thinking during its annual investor day conference in Austin, Texas, on Wednesday morning, where the founder and chief executive said it is midmarket customers – those between the super users on top and those on the very low end - who often blaze the technology trails with new technologies. It was these who pushed ahead with x86-based servers in the past, well ahead of larger customers, and who are on the front edge of technology trends again with iSCSI storage, server virtualization, cloud computing, and social commerce today.
Dell's view of IT opportunity and spending across its four divisions
Dell may sell some PCs to consumers, but it is not focused on these buyers and is rather aiming to sell to corporations and governments as well as something it calls a "prosumer," meaning a professional/consumer that is looking to buy a midrange to high-end PC, workstation, tablet, or smart phone. These come with enterprise-class features and services wrapped and higher margins, too.
Similarly while Dell sells to global enterprises, the big, proprietary and Unix systems that these companies deploy in their data centers are not what Dell peddles. So only a portion of the $290bn in sales of hardware, software, and services at global enterprises is available to Dell, and hardly any of the $220bn in consumer spending will go to Dell.
"The largest part of the business is right in the middle," explained Dell (the man), and this is where Dell gets 80 per cent of its revenues and 90 per cent of its profits. So you can see why the company is sticking to its focus on the midrange. "Our competitors do not – or have not been able to – focus on that part of the industry."
To beef up its products and services in the midrange, Dell has done 11 acquisitions in the past two years, including biggies like the $3.9bn purchase of Perot Systems (services) and smaller ones like the purchases of Compellent (storage), KACE (systems management), and Boomi (cloudy app integration). And according to Dell chief financial officer Brian Gladden, the company is making a fundamental shift from being a hardware vendor to being a solution provider in the mold of IBM, Oracle, and Hewlett-Packard.
This doesn't just mean selling more software and services, but also doing smart things like cutting back on the number of configurations of machines and shifting to more contract manufacturing. Dell shuttered a number of its factories and shifted manufacturing to Asia at the same time it figured out that if it could convince customers to take a smaller number of pre-configured machines, it could then ship machines to customers in North America and Europe by boat for the long haul instead of by plane.
This cut $20 a pop out of the unit cost of a PC, which is a big deal. Simpler configurations means larger orders for components, too, which means lower unit costs for parts, adding to profits. Dell is also now better able to forecast its demand (based on how customers react to pre-configured machines), and that means its supply chain is more efficient as well.
All of these factors have combined to lower Dell's cost of goods sold by 31 per cent from the fourth quarter of fiscal 2009 to the first quarter (ending in April 2011) of fiscal 2012 (which ends in January 2012). And contract manufacturing, by the way, has grown from 43 per cent of units in fiscal 2010 to 72 per cent in the first quarter of this fiscal year.
Gladden also said that Dell has added more sales specialists with expertise in servers, storage, data center design, and so forth to help close deals, and that these specialists now comprise nearly 30 per cent of spending on salespeople. And R&D spending has been shifted away from client devices – enabled in part by product line simplification – and toward servers, storage, and networking, which is projected to account for more than 70 per cent of the Dell R&D budget in fiscal 2012.
Gladden didn't provide any hard numbers on the R&D budget, but said budgets for client devices would be about one per cent of total revenues, with servers and networking getting around five per cent of revenues and storage getting about 12 per cent. Clearly, Dell thinks that storage is a big deal.
Dell's gross margins in storage in the first quarter were more than 40 per cent, more than double than levels two years ago – and not including the effect of Dell's acquisition of Compellent earlier this year. Dell has certainly taken some hits as its partnership with EMC has unwound, but Gladden said Dell's storage business was on track to grow 15 to 20 per cent between now and the end of fiscal 2015, hitting between $4bn and $5bn, and that the storage products based on Dell's own and acquired intellectual property were expected to growth at twice that rate and contribute an ever-larger share of the revenue.
Dell's storage business more or less flat-lined in the past two years, as sales dropped from $2.7bn in fiscal 2009 to $2.2bn in fiscal 2010 and $2.3bn in fiscal 2011. EMC-related sales dropped from $1.7bn in 2009 to $1.2bn the following year and only $1bn last year. Gladden said the pipeline for Compellent products was up by a factor of four since the deal closed in February. In the first quarter of fiscal 2012, Dell's own storage products accounted for 70 per cent of storage revenues and nearly 90 per cent of profits.
Don't fear the whitebox
With Google and Facebook designing and building their own servers – Facebook is the poster child for Dell's Data Center Solutions custom server building operation – and with Rackspace not only buying whitebox servers but bragging about how they are getting more for their money, you might think the exec running Dell's server, storage, and networking business is sweating a bit.
That exec is former HPer Brad Anderson; Anderson, though, didn't seem perturbed by whitebox server makers or DIYers during the analyst event.
Anderson said the DCS unit was established four years ago to help hyperscale data center operators cram more computing and less power into less space to scale their naturally parallel Web workloads, and that this was a great business for Dell at the time. It was a particularly good move for Dell, as the company got in on the ground floor with a few dozen companies, supplying them millions of machines.
"That business has greatly evolved, and we are very much focused on solving a much bigger problem," explained Anderson. This includes designing data centers, building modular data centers, and doing other things to improve operational efficiency. "These are all things that whitebox server builders cannot do," he said, adding that "if somebody is purely focused on price, that's not a very profitable business."
Dell says it's positioned for enterprise growth
While that is an interesting interpretation, a more plausible one is that very large customers who have very precise needs have figured out they can go straight to a contract manufacturer such as Quanta and get precisely the machines they need for their workloads at a lower price. If Facebook could get better machines at a lower price, it would have never have started the Open Compute Project. For several years before this project launched, DCS could act as a middleman between Facebook and Quanta.
Most customers in the world, and particularly those in the midrange, are not interested in building their own servers. So that's why Dell isn't sweating the whitebox makers and their effect on the DCS business.
Dell is very bullish on its server and networking business, which brought in revenues of $7.6bn in the fiscal 2011 year and has operating income above 10 per cent. Last fiscal year, Dell's server business grew 26 per cent, and margins were up 28 per cent. Dell has about a 22 per cent share of the global market for servers, and managed to take down an impressive 38 per cent in the US market. By contrast, Dell has about nine per cent of the storage market and about 2 per cent of the Layer 2/3 switching racket.
And while Dell plans to beef up its PowerEdge server, various storage, and PowerConnect networking businesses, don't think the company is going to build up a tightly integrated stack that requires customers to take all of the parts to get good performance and efficiency.
"While others are going back to the mainframe era, we are holding onto openness," said Anderson, who said that customers did not want to standardize on one kind of component, much less one infrastructure supplier. Dell will offer benefits to customers that take an all-Dell stack – predominantly financial and ease of integration, we presume – but will integrate with other companies' servers, switches and storage. Dell Services will even now offer tech support on non-Dell machinery.
personal commercial with tablets and smart phones
Enterprise systems and support are key to Dell's growth and profitability, but don't think that the company is going to abandon the PC business. Like HP and Fujitsu, Dell knows the PC is the foot in the door at many small and midsized businesses, and with more than two billion interactions with customers since its founding, it says it knows how to keep those customers happy as they grow and make them Dell IT shops as they do.
That said, Dell does have its eyes on other revenue and profit opportunities according to the CEO who presented the chart below.
Dell's growth chart: revenue on the X axis, operating income on the Y
The next generation computing and intelligent data management bar is all of the stuff Dell wants to wrap around new servers and storage, including systems management software and appliances, modular data centers, networking and so on. As you can see, the revenue and profit potential here is considerably larger than Dell currently gets from servers and storage. Dell also thinks it can carve out a very profitable application software services business, running software on clouds for customers, and has its eye on selling smartphones, tablets, and related security and data services for them to enterprise customers.
But Dell is still very bullish on PCs, as it is on servers and storage. "The end of the PC era is over-hyped," said Jeff Clarke, who run's Dell's client business, in his presentation at the analyst day. As it is doing in servers, Dell's PC business is evolving from being strictly a hardware business to one that provides services for myriad kinds of devices. The chart below shows, how Dell sees the client business.
The client is no longer just the PC, in Dell's view
PCs may only rise at a compound annual growth of seven per cent between now and 2014, but that's still a $320bn addressable market – nothing to shake a stick at, and something to chase in emerging markets for sure. If you sell the desktop and notebook to an SMB shop in India, China, or Brazil, you'll probably sell the server if the PC isn't crap. Dell wants to sell smart phones and tablets to these customers, too. And perhaps more significantly, Dell expects 75 per cent of the revenue growth and 85 per cent of the unit growth opportunity for client devices of all types to come from emerging markets.
Clarke was not about to pre-announce products at the analyst day, and did not say what Dell's plans were for ARM-based notebooks, but he did concede "we're going to see ARM processors on notebooks, clamshells, or whatever you want to call them" right alongside devices using low-powered Core and Atom chips from Intel.
The issue, said Clarke, is that smart phones and tablets have trained us to expect a device to be always on, always connected, thin and light, with a day's worth of computing battery time.
As for Dell's plans for smart phones and tablets, Clarke merely said that Dell would be focusing more on integrating devices with services – such as data storage and security – that would appeal to its commercial customers and shy away from strictly consumer devices that have been launched by vendors to date.
That's an interesting idea, but it may turn out that companies will want something that looks a bit more consumer like from here on out. The app catalog is the computer, after all. ®