Highlights From DELL's Q2 Conference Call: Revenue Up 1% Year-Over-Year and Up 4% Sequentially

Dell, Inc. (NASDAQ: DELL) reported Q2 EPS of $0.54, $0.05 better than the analyst estimate of $0.49. Revenue for the quarter came in at $15.7 billion versus the consensus estimate of $15.76 billion. Shares are currently down 9.05%.

Sees FY11 sales growth of 1-5%, down from prior guidance of 5-9%. Sees operating income growth of 17-23%.

Highlights From DELL's Q2 Conference Call:

• (Brian T. Gladden) We have put a big focus on accelerating revenue growth in our Enterprise Solutions and Services business, and we've refined our strategy to focus on three solutions domains. The first domain is next-generation computing solutions and intelligent data management. The second domain is services, security, and cloud. And the third domain is end-user computing.
  
• We're making significant and thoughtful investments to develop and acquire industry leading intellectual property in systems management, storage, security, and networking. Good proof points thus far are the accelerated growth in KACE systems management, the broader adoption of EqualLogic and Compellent storage solutions, and SecureWorks managed security success.
  
• Our first half results clearly demonstrate our ability to execute our strategy and win in the marketplace. We delivered very good financial results, with first half revenue up 1% and non-GAAP operating income up 59% year over year.
  
• We continue to make deliberate decisions to eliminate low value added revenue from the portfolio and focus on key strategic areas for growth. There's no question that our revenue growth is being impacted by our strategy, but that's a tradeoff we're willing to make.
  
• Consistent with our outlook provided in May, revenue in the second quarter was $15.7 billion, up 1% year over year and up 4% sequentially. Our Enterprise Solutions and Services business grew 4% to $4.6 billion.
  
• On a GAAP basis, operating income was $1.1 billion or 7.3% of revenue. We delivered earnings per share of $0.48, and earnings per share was up 71% year over year. For the rest of this call, I'll refer to non-GAAP financial measures.
  
• We delivered 23.2% gross margins, driven by continued strong product cost execution, disciplined pricing, and an ongoing shift to higher value Dell technologies.
  
• OpEx was $2.3 billion or 14.7% of revenue.
  
• Operating income grew 52% to $1.3 billion or 8.5% of revenue. The commercial segments as a whole delivered 10.5% operating income, representing a 280 basis point increase from the previous year.
  
• Interest and other expenses were $55 million, driven by approximately $70 million in quarterly interest, offset by investment income.
  
• For the quarter, our tax rate was 21%, consistent with our outlook and consistent with prior quarter.
  
• Earnings per share increased 69% year over year to $0.54 per share. In the quarter, vendor settlements resulted in approximately a $70 million benefit that increased gross margins 50 basis points and earnings per share by $0.04.
  
• Finally, a real highlight for the quarter is the record $2.4 billion that we generated in cash flow from operations, and we've now delivered $5.2 billion for the trailing four quarters.
  
• Enterprise Solutions and Services revenue grew 4% to $4.6 billion, driven by strong performance in servers, Dell Storage, and Services. Brad will discuss Server and Storage businesses in just a moment.
  
• Dell Services revenue grew 6% to $2 billion.
  
• The total contract value of new contracts signed in the last quarter was $1 billion and was $1.3 billion for the first half.
  
• Our Services backlog is now $15.4 billion, up 11% from a year ago, and this is split between $6.8 billion in deferred extended warranty and $8.6 billion in contracted services backlog.
  
• We've now sustained client OpInc above 5% for the last three quarters and believe we can maintain this level of profitability on a sustainable basis. In our second quarter, Client revenue was up sequentially 6% and down 1% year over year to $8.5 billion, driven by our public business where Client revenue increased 34% sequentially.
  
• S&P grew 1% to $2.6 billion as we focus on significant pruning activities, and it now represents 16% of our revenue.
  
• Growth markets continue to be strong. We define growth markets as markets outside the U.S. and Canada, Western Europe, and Japan. These geographies now account for 28% of Dell's revenue, and revenue was up 14% over the previous year. Specifically, India and China were up 21% and 20% respectively.
  
• Regionally, revenue in APJ and EMEA grew 17% and 1% respectively, while revenue in the Americas was down 4%. In APJ, Enterprise Solutions did well, with profitability up nicely there.
  
• Large enterprise revenue was up 1% to $4.6 billion, led by strong demand for servers and services. Server growth was 5% and Services growth was 11%. OpInc as a percentage of revenue improved 350 basis points to 9.8% of revenue, and they generated $448 million of operating income.
  
• Our public business achieved record profitability in the quarter. Overall, public OpInc was $484 million and improved 290 basis points to 10.9% of revenue. Public revenue was down 3% year over year but up 18% sequentially to $4.5 billion.
  
• Small and medium business revenue grew 5% to $3.7 billion. In the second quarter, server storage and services grew year over year and most of the remaining EMC storage business has now transitioned to Dell Technologies.
  
• Overall in the second quarter, we delivered operating income of $404 million, or 10.9% of revenue, which is 180 basis point improvement year over year. Consumer revenue was up 1% to $2.9 billion, driven by strong growth in EMEA and APJ, whereas Americas revenue declined.
  
• Overall, consumer delivered $73 million in operating income or 2.5% of revenue in the quarter. For the first half of the year, consumer delivered 3.5% operating income, which is good consistent performance, and about where we would expect to see profitability in the business at this time.
  
• (Bradley R. Anderson) With respect to acquisitions, the acquisition of Force10 will accelerate our next-generation computing and data management strategies and greatly enhance the breadth of solutions we can provide for our data center customers.
  
• The benefits of our midmarket design focus are clearly evident in the success of EqualLogic, which continues to be a highly profitable line of storage and remains the leader in the iSCSI market. The launch of the Dell EqualLogic FS7500 during the quarter brings the first scale-out NAS and unified storage capabilities to the Dell EqualLogic platform. The FS7500 provides up to 10 times more file share scalability than the legacy unified storage offerings in the marketplace today.
  
• Our global sales team and partners have delivered in a significant expansion across the regions, as we sold Compellent in 47 countries in Q2 compared to only 30 in Q1.
  
• In Q2, our total storage revenue declined 20%, but growth in Dell owned IP continued to show strength, up 15%, led by the SMB segment growing at 27% year over year.
  
• Our server and networking revenue for the quarter increased 9%, with SMB up 17% year over year.
  
• (Brian T. Gladden) As a result of these combined efforts, we're raising our operating income growth expectations for FY 2012 to 17% to 23% year over year versus our previous view of 12% to 18%.
  
• We're revising our FY 2012 revenue outlook to 1% to 5% growth versus our previous view of 5% to 9%. For the third quarter, we see revenue roughly flat relative to our second quarter, which is in line with seasonality we've seen over the last two years.
  
• We anticipate interest and other to be around $70 million in expense, and we expect our full-year tax rate to be between 21% and 23%.
  
• (Michael S. Dell) We're excited about our pending acquisition of Force10 Networks, but we know that value is created not by acquiring companies, but rather by successfully integrating them along with continued investments in research and development and sales capabilities. It's early, but we're building a strong track record of successful integrations.
  
• This expansion of our capabilities and solutions is opening up a broader base of the nearly $3 trillion IT market. These are exciting times for our team and our customers, and we look forward to continuing to update you on our strategic progress.
  
• (Q&A) I was wondering if you could talk a little bit about the new revenue outlook with respect to the implications of the lower IT demand outlook out there relative to deemphasizing some of the lower end margin businesses. (A) Yes, Brian, it's clear that the demand environment is weaker and a bit more uncertain than what we had in our previous view. And we highlighted the U.S. and the developed countries as a driver there, especially the consumer business. I would also say that the U.S. federal buying right now is a bit - we see a lot of push out, but there are opportunities there. While the pipeline itself looks pretty good, the ability to close those has slipped month to month as we move throughout the year. The second element, obviously, is really our continued work around deemphasizing lower value business. I think that clearly is contributing and results in lower revenue growth for the company. I think that's net-net a good thing for us, obviously contributing to profitability, and it's something that we'll continue as we work through the portfolio and mixing the business to higher value products.
  
• Okay; having said that, a quick clarification. On the SMB side, it looks like your operating margins were down about 140 basis points sequentially. Can you talk a little bit about some of the puts and takes there? Thank you. (A) I think SMB in general was probably the strongest market. We saw, as you look at the segments, it clearly had 5% year-over-year growth in revenue, a relatively stable margin environment for SMB, continue to mix the business up. And it's clearly a space where you would see us making investments and higher OpEx in the short term ahead of some of the growth with some of the new solutions and midmarket focused products and services. So that's the fundamental dynamic, a place where we're making some investments, and that's affecting the operating income in the short term.

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