Dell Computer has vowed to remain on the offensive in an ongoing PC price war, sacrificing profits in a bid to gain market share - a strategy that the company's founder admits could ultimately kill off a competitor.
"I think that there will certainly be some consolidation and competitive shakeout," Michael Dell said in a conference call with analysts after the computer maker warned that its fourth-quarter earnings would fall short of projections.
Dell's prediction is similar to one issued earlier this month by analyst Andy Neff.
"This is an industry which needs consolidation. There's over-capacity, somebody has to leave," Neff said at the time. "I think that two of the top 10 PC makers will exit the market this year."
Although Dell's aggressive low-price strategy has pushed gross profit margins below traditional levels, Michael Dell contended that current "profitability levels are quite respectable."
Too focused on market share?
But some market analysts criticised Dell's actions as
risky, saying that lowball pricing could do more harm
than good.
"I've got to question the merits of its aggressive pricing stance," said Rob Cihra, a market analyst with ING Barings in New York. "I think that they are being too focused on market share and not on the broader picture."
While Dell said it has won over new customers through its aggressive pricing, Cihra said the strategy can potentially undermine profits throughout the PC industry.
"It hurts everybody," he said. "It remains to be seen whether just gaining share through lower pricing and profit margins is really a smart strategy."
Although Dell executives didn't release specific financial figures, they said that their profit margin have recently fallen 3 percentage points. Cihra said that probably brings Dell's profit margins down to about 18 percent, well below the 21.3 percent the company recorded the previous quarter.
Others admittedly were caught off guard by Dell's admission that it is making less money overall on the products it sells.
"Like everybody else, we were expecting a revenue and earnings miss ... but I definitely didn't expect margins to take as big a hit as they did," said Richard Chu with S.G. Cowen in Boston. "I'm concerned that it is more than a temporary drop."
Chu said he didn't understand why Dell needed to sacrifice profits to remain price-competitive, especially since the company's direct-order business model has been touted as being more efficient than its competitors, enabling Dell to offer lower-cost systems in the first place.
"Their model should allow them to cut prices and gain market share without giving up margins, particularly in a market where component costs are coming down and competitors have channel inventories," he said.
A 'challenging environment'
Dell's founder agreed that several of the company's
competitors are struggling to rid themselves of unsold
computers, the result of an unexpected drop in
consumer demand during the normally strong holiday
season.
"The largely indirect-based competitors will be faced with quite a challenging environment going into the first half of the year with an excess of inventory - and perhaps the wrong kind of inventory," Dell said, noting that PC makers may have trouble selling older Pentium III-based systems now that newer Pentium 4 PCs are available.
"We think it gives us a great landscape with which to continue the strategy we're on," he said.
Dell's earnings warning follows a recent spate of cautions issued since Thanksgiving, when Gateway first disclosed that a dramatic drop in year-over-year PC sales would result in a revenue shortfall.
Two weeks ago, the computer maker reported fourth-quarter earnings well below projections and announced a series of cost-cutting moves, including plans to lay off more than 3,000 employees.
On Tuesday, Compaq Computer will release its earnings after the stock market closes. The company warned investors in December to expect lower profits due to sluggish PC sales and a worsening global economy.
