USA: DELL'S DIRECT APPROACH. - For all its current impressive performance, Dell Computer Corporation needs to aim its direct sales and build-to-order recipe at the private consumer if it is to go on outstripping the market.

by Jane Bird.
Last Updated: 31 Aug 2010

For all its current impressive performance, Dell Computer Corporation needs to aim its direct sales and build-to-order recipe at the private consumer if it is to go on outstripping the market.

For a sterling billionaire Michael Dell, founder of Dell Computer, is remarkably unassuming. Ask him about his luxuries in life and he looks briefly stumped: 'I've got a house, a wife, four kids and a dog, but I don't have a boat, train or aeroplane if that's what you mean,' he says.

'And I've driven the same car for the past six and a half years - an Accura (Honda) NSX.'

During most of that time, Dell Computer's $10 billion (£5.9 billion) business has grown more than twice as fast as the high-flying PC industry.

Nor is there any sign of a slowdown. Net profits for the third quarter of 1996 were up 92% on the same period a year earlier, to $145 million, while sales climbed 43%. In the UK - Dell's strongest overseas market - the company is now the number two player with expected sales of more than $1 billion this year. Worldwide the firm ranks fifth behind Compaq, IBM, Apple and NEC.

Dell's philosophy is simple: cut out the middlemen and sell directly to customers. The company advertises in computer magazines, takes orders over the phone, and builds to order, an approach which has also fuelled the growth of Iowa-based Gateway 2000, its closest rival. While Gateway is focused on the consumer end of the market where it competes strongly on price, most of Dell's sales are to large corporate buyers where features and performance carry more weight than shaving a few pounds off the price tag. For both companies, the advantage of bypassing distributors and dealers is rapid time to market and bigger profits. Dell currently holds 12 days' inventory turning its stock over 30 times a year. Compaq takes around 50 days, while many manufacturers hold 100 days of stock.

Hence Dell's huge return on capital of 111% in the first nine months of last year. Despite widespread erosion of margins in the hardware business, Dell's gross margins are running at 21% to 22%.

Fast turnaround has another advantage for manufacturers of PCs which have been compared more with ripe bananas than bent metal. Key components such as memory and processor chips are currently falling in price by an average of 30% a year which means that manufacturers stuck with too many can be undercut by faster-moving rivals. And if their stockpiles coincide with a significant development in chip technology, those manufacturers can end up with thousands of obsolete machines. While those who run a lean components supply system can, of course, be caught short if things go against them, Dell did particularly well in 1996 because the price of memory chips fell by two-thirds in the first nine months.

Dealing directly by phone offers Dell another advantage too in that it keeps the company in close touch with customer trends (it receives around 60,000 customer calls a day). Manufacturers who rely on third parties, on the other hand, are one step removed from the market.

At 32, Dell can still be described as a computer whiz-kid, not least because he was only 12 when his business skills first began to emerge.

He got a reseller's licence and ran a nationwide stamp auction that netted him $2,000. While at high school, he spotted a crafty way to sell subscriptions for the Houston Post, paying his schoolfriends to go to the county courthouses and copy down the names and addresses of people who had recently bought marriage licences. To these bridal couples he sent personalised letters, composed on his PC, offering a free, two-week subscription, after which most signed up. By the time he was 18, the ploy had made him $18,000.

In 1983, Dell signed up at the University of Texas at Austin to study biology, but soon filled his room with the unsold stock of local PC dealers.

He added components and resold them as higher specification machines to local businesses, and by the spring holidays of his first year was turning over nearly $50,000 a month. In May of that year he formed Dell Computer Corporation. Sales topped $180,000 in the first month, and by the summer Dell had dropped out of university, telling his father he preferred to 'compete with IBM'.

It hasn't been a completely smooth ride: in the early '90s the business encountered a series of problems. Ironically, this was partly due to weaknesses in its own IT systems which were unable to separate product lines by profitability, and were not focused on cash flow or liquidity. Nor were they quite able to cope with increased complexity as Dell expanded its product range and moved into different geographic areas. And a hire-and-fire attitude to management served to exacerbate the business problems - the incumbent management team simply lacked experience.

'In 1992, we grew 126%, which was thrilling,' says Dell. 'But the following year we had real problems because the business had outstripped its ability to support itself.' By July 1993, Dell had undergone seven consecutive quarters of negative cash flow, the chief financial officer had resigned, and its new line of portable computers had been ditched due to poor production planning. The company wrote off $40 million the following year to pay for the mistake and retool the line. But then it made another error by venturing into retailing, thought at that time to be a massive growth market. Dell's machines sat uneasily on the shelves between Compaq's which were better known and Packard Bell's which were cheaper. There was also conflict between the stores which needed to make a margin and Dell which could offer lower prices direct. 'I felt a gradual panicking,' Dell said later. 'There was a period when every piece of news I heard got worse and worse and worse.' In the end, he abandoned Wal-Mart and the other stores, to re-focus on the company's direct sales origins.

Recognising the need for a few grey hairs on the board, Dell set about appointing a heavyweight management team, the youngest of whom is a decade older than the whiz-kid. In June 1994, Morton Topfer joined as vice-chairman from Motorola where he had been head of land mobile products. Dell has delegated a great deal of responsibility to Topfer whom he often describes as his 'co-CEO'. Meanwhile in the UK, Dell hired Mike Newton from Apple last summer, where he had been UK managing director for eight years.

The senior recruits have helped Dell mature as a company - although most staff are still in their 20s and 30s, Dell does not have the casual culture of the Seattle-to-Silicon Valley high-tech companies. Business suits are worn every day except Fridays, and even then if staff are meeting a customer.

Money is the main motivational driver apart from the sheer thrill of working for a high-flying company at the leading edge of technology. All staff are appraised annually and receive a financial bonus based on their individual performance and that of their business unit. In the US, staff receive 13 months' pay for every 12 worked, and everyone is encouraged to take part in the company's stock option scheme.

Can the growth continue? 'We spend a great deal of time thinking about this question, and wondering whether there are limits to our growth possibilities,' says Dell. If there is a limit, it is certainly a long way off, he reckons.

The PC industry is expected to be worth $250 billion by 2000, and Dell reckons it is entirely reasonable for his company to aspire to an 8% or a 10% slice of this cake.

Yet so far the vast majority of Dell's sales have been among corporate buyers who are happy to deal directly and who have their own IT staff to provide technical assistance. But if Dell is to continue to outstrip the market, it will need to conquer the heart and mind of the private consumer. This could be more difficult as home users like to touch and feel computers before a purchase, especially when they are buying for the first time. Dell is the first to admit that first-time buyers are a tough challenge. For a start, they are fixated by low prices, he says.

'Stand outside the shop as customers go in and they'll say they want to buy a highly-regarded brand. When they come out, most will have bought the cheapest.' And then there is the fact that first-time buyers also tend to require a lot of after-sales support, even though their actual number is diminishing since many families now have two PCs or more.

Hence Dell's decision to focus on more savvy second-time private buyers, between 30% and 40% of whom buy direct, according to Dell. In this market he acknowledges a debt to companies such as Amstrad. 'In the UK, Alan Sugar helped our business quite a bit by selling lots of inexpensive and powerful computers in the 1980s. This created a large base of knowledgeable buyers which has helped springboard us into the number two position in the UK.'

Product diversification will also help fuel expansion. Dell needs to boost its presence in the high-margin top-of-the-range server PCs. At present these only account for 4% of revenues, although though even that makes a sizeable business. 'The problem is that the rest of our business is growing so fast,' says Dell. 'To get to 5% would probably take another 200% increase in revenues.' Nevertheless he expects to achieve it this year. In portables, too, Dell has now fully recovered the ground it lost at the beginning of the decade. Its Latitude range is a leading brand and accounts for some 18% of turnover.

New routes to market are also part of the plan for growth: like so many others, Dell Computer plans to exploit the possibilities of the Internet.

'We've had ear-to-ear sales and face-to-face. Now we want to do key-board-to-screen,' says Newton. Some 12% of Dell's US business is already conducted on the Web. The plan is to extend this by encouraging buyers to browse the product range and make their purchases online, a service targeted largely at corporate buyers rather than private consumers. 'A large company with a centralised purchasing department might not want to be seen to have iron fists,' says Newton. Instead it could list all approved products and prices on a corporate intranet, its private section of the Internet. Individual departments could decide what they want and place their orders. These would then be routed back through the purchasing department where they would be rubber-stamped and transmitted to Dell.

Are other manufacturers likely to bid for a piece of the direct sales pie? It is always a possibility, Dell admits, and it's been done before.

Most manufacturers who tried it pulled out, however, due to conflict with their dealers and resellers. Certainly resentment among resellers persists against Dell which they accuse of everything from unfair collaboration with Microsoft to producing a higher proportion of faulty machines than IBM, Compaq and HP. And there is some justification for the complaints about Microsoft, according to John Ces, senior research analyst at Romtec, the UK-based market research company. 'Dell and Gateway have a very lucrative deal with Microsoft whereby they supply Microsoft's Office software pre-installed,' Ces says. The software is effectively given away free with the machines whereas resellers would expect to charge anything from £100 to £400 for it. For Microsoft, the attraction is easy access to a vast pool of potential new users. 'It creates an annuity for the software houses,' says Dell who has many other smaller software developers also knocking on his door.

Dell Computer is expanding geographically too, having added a manufacturing plant in Penang, Malaysia to its facilities in Austin, Texas and Limerick, Ireland. And it is continuing to hire staff, recruiting 3,500 last year which brought the total headcount to 8,400. Once hired, how does Dell inspire them? In the old days, he reputedly fired the enthusiasm of his troops, some of whom dressed in battle fatigues, by telling them that his daughter's first words were, 'Mommy ... Daddy ... Daddy, kill Compaq ... Daddy, kill IBM ... Daddy, kill Gateway'.

It's different now apparently. 'I don't say "kill" any more because we have too much market share and our attorneys don't like it,' Dell says.

He appeals to his staff's wallets instead. Stock incentives form a large percentage of pay and the soaraway performance of Dell's shares in the past two years has helped make more than 200 of them millionaires. The money is a big motivator for staff, as it clearly is for Dell. As far as spending is concerned, however, that doesn't seem to interest him very much.

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