Dell Technologies Inc. (DELL) Earnings Call Transcript & Summary

Good morning, everybody. I'm Brian Alexander. I'm the Director of Research at Raymond James, recovering tech analyst. Simon Leopold, who covers Dell Technologies, is off-site. And I have the pleasure of pitch-hitting this morning fireside chat format. Very pleased to have Yvonne McGill here, Corporate Controller from Dell, been with the company for almost 25 years, and we're going to keep it pretty interactive. I do have to read a couple of disclaimers, which I'm thrilled to do. So you could see them on the screen. I'll run through them quickly. Non-GAAP financial measures. The discussion may refer to non-GAAP results, including non-GAAP revenue, non-GAAP operating income, non-GAAP cash flow from operations, and non-GAAP earnings per share on a diluted basis. For a reconciliation to the most directly comparable GAAP measure, please consult the slides, labeled supplemental non-GAAP measures, in the performance review available on the fiscal Q4 2022 results page on investors.delltechnologies.com. Safe harbor statement. Dell Technology statements that relate to future results and events are forward-looking statements and are based on Dell Technologies' current expectations. Actual results and events in future periods may differ materially from those expressed or implied by these forward-looking statements because of a number of risks, uncertainties and other factors, including those discussed in Dell Technologies' periodic reports filed with the SEC. Dell Technologies assumes no obligation to update its forward-looking statements. We got through the hard part.

That was wonderful.

Now the fun begins. Okay. So Yvonne, I think you're new to the conference circuit. And maybe investors don't know a lot about you or your history, your time at the company. So maybe just a brief introduction and how long you've been with Dell and what you've done along the way?

Okay. Great. Thanks, Brian, and thanks for hosting today, and thanks for reading that. Really appreciate it. So I have been at Dell Technologies for almost 25 years now. For the past 2 years, I've been leading our accounting, tax, treasury and IR functions as well as our Infrastructure Solutions Group and our Apex-as-a-Service business. I've had many other roles over the last 25 years, including Chief Accounting Officer and had the opportunity to have 2 international assignments, and my favorite being CFO of our Asia business, and had the opportunity to live in Singapore. I'm a member of our Global Diversity Council. And I'm an executive sponsor of 2 of our employee resource groups, Family Balance and Women in Action. And I did want to do a call out and celebration for International Women's Day today. So I want to celebrate all the women in the world today. And finally, I'd say, for the last 2.5-plus years, I've been a member of the Applied Materials Board. And as you can imagine, as a finance professional, I have the opportunity to be a member of the Audit Committee and the Corporate Governance and Nominating Committee, which includes ESG. So really a great last quarter of a century and looking forward to keeping working.

Excellent to have you here. So thank you.

Thanks.

I think a lot of people are familiar with what Dell does, but if you don't mind just providing more of an overview of Dell's business for those that are not as familiar. And I know you guys reported results recently, January quarter, I believe January fiscal year.

That's right.

If I remember correctly. So maybe just give us some highlights for the most recent results.

Sure. Well, we did have a record FY '22. And we did some really interesting transactions, like finishing up the VMware spend. But before I get to that, I did want to -- for those that aren't as familiar with Dell Technologies, really give an overview of our strategy and our vision. So we believe we are uniquely positioned in this multi-cloud era, with durable competitive advantages. We have market-leading positions across our portfolio. And we have lots of financial flexibility to drive sustained profitable growth. And we have leadership positions in large, stable and expanding markets, with strong fundamentals in our business. ISG and CSG, our core businesses. They participate in a large market with about $670 billion of TAM, with ample room to grow. We have a track record of gaining share across the portfolio and we're pursuing a differentiated strategy to consolidate and modernize our core businesses. ISG and CSG are core, really give us a durable competitive advantage and lots of strong cash flow generation, which is enabling us to enter into new growth opportunities. And we believe that the new growth areas are really exposing us to around $650 billion of additional market opportunity, growing about 8% CAGR through 2024. We believe we have a unique right to win in these areas, areas like Telco or Edge. We have a differentiated strategy to win the consolidation and modernization of the core plus these new businesses I talked about, where we have the right to win. We have a track record of growth, profitability and shareholder value creation. FY '22, I'd start by saying, wow, what a year, a record year. We delivered record revenue of $101 billion, record operating income of $7.8 billion, record EPS of $6.22 and cash flow from ops of $7.1 billion. We delivered significant shareholder value in many different ways. We completed the VMware spin, which I mentioned earlier. We've simplified our capital structure. We deleveraged our balance sheet. We became investment grade achieved investment-grade ratings with all 3 rating agencies. And we announced a $5 billion share buyback program as well as recently announced a $1 billion dividend for the year. As we finished the year, we saw tremendous demand growth across the portfolio. CSG, records across the board, $17.3 billion, up 26% year-over-year. Record operating income at $1.2 billion, and record shipments of 17.2 million PCs, which is pretty darn amazing, where we had gained share 32 of the last 36 quarters. ISG's overall demand was at 17%. Servers and networking delivered 7% revenue growth and storage demand grew for the third quarter in the high single digits and delivered the best performance since the EMC acquisition. So we're pretty pleased with that. Looking ahead, we remain committed to our long-term financial framework, which we outlined in our Security Analyst Meeting in September. It's 3% to 4% revenue growth, 6-plus percent diluted EPS growth. Net income to adjusted free cash flow of 100% or better. 40% to 60% of free cash flow returned to shareholders, so pretty robust. We're very optimistic about the future. The strength in the core with leading market positions, and that durable competitive advantage I talked about as well as those new and adjacent markets where we believe we have a unique right to win. Our strategy and our financial flexibility will drive long-term value creation.

Well, a very impressive year and appreciate all the details.

Absolutely.

So on the supply chain, a big topic of conversation.

Absolutely.

Dell's one of the biggest buyer of components in the world. So you guys have a pretty unique view of the supply chain environment and the constraints. So if there's any way you could kind of quantify how the constraints have affected your business in terms of revenue, earnings, cash flow and talk about backlog as well?

Sure. Well, first, let me start by saying how proud I am of our supply chain organization and capabilities. It is one of our durable competitive advantages that I spoke of. We have a multi-decade operational heritage with long-time direct relationships with our suppliers, which certainly, we've leveraged over the past few years. We design our products for flexibility with less complexity, and that provides us the more modular design, with more match sets so we can ship more product based upon what supply we have. Our demand also -- we get signals from our direct sales model -- our direct sales team, which allows us to do scenario planning and shape demand. Our global supply chain shortages of semiconductors and global logistics challenges, those aren't unique to Dell, right? We're hearing about those everywhere. But we are continuing to see them, right? We're still experiencing shortages in areas like integrated circuits. In addition, one of the interesting things we saw in Q4 from an inflationary environment was significantly higher freight costs and expedite costs. Let me give you an example. Last year, we would be able to charter a 747 from Asia to the United States, and it would cost us somewhere around $400,000. This year, to do the same thing to expedite or to charter this plane, was running around $2.5 million. So pretty significant change year-over-year. We are taking pricing actions as quickly as we can to address this cost inflation. But certainly, with the high backlog we have, we are not able to capture all of those costs. Customers have been generally receptive to the longer lead times and the increased costs. We're not seeing any increases in cancellations due to elevated lead times. But we are seeing a lag between realizing those costs, like I talked about, we are experiencing in the fourth quarter with freight and our ability to offset those due to those higher backlog positions. Backlog for us, as we exited the fourth quarter, was at record highs for both in ISG in total, but both for server and for storage. PCs have returned more to a, I'd say, the higher end of normal from a backlog standpoint. We do expect semiconductor constraints throughout the rest of this fiscal year, fiscal '23, and elevated backlog through at least the first half of the year. We're seeing modest deflation in component costs in Q1, but freight costs will still be elevated. But we'll continue to monitor and make adjustments as necessary.

And fiscal '23 being calendar '22?

Calendar '22, plus a month of January. Yes.

Okay. we're going to dive into a couple of the key businesses of Dell, starting with the PC business, which is the legacy of Dell. You're one of the biggest players in the world in terms of market share. PC market has been strong for several years, and I know everybody keeps calling kind of the end of the cycle and the death of the PC. I think we were up 10% units in last calendar year. Q4 was down year-over-year. So maybe just provide some perspective on the overall PC market, the cycle? And how sustainable you think the strong demand can be?

Sure. Well, you talked about the trends. We see that the baseline has been reset to 350 million units in calendar '21, up from 260 million prior. There's been unprecedented growth in calendar '20 and '21 with usage patterns changing, right? Hybrid workers, hybrid learners, and this do anything from anywhere environment where the PC is that essential device for productivity. We don't see that going away. We also see some really interesting opportunities from a refresh standpoint. There are 550 million PCs that are greater than 3 years old, and they really can't deliver that modern experience that everyone is expecting today. And I'd add to that, that with more people using notebooks, the refresh cycles have increased, right? So a notebook definitely doesn't last as long as a desktop. But I also point out that not all units are created equal. We are focused on that high-end part of the market, the high-end segments, whether it's commercial PCs, small and medium business and premier consumer and gaming. These segments historically are more stable, and they have higher ASPs as well as higher profitability. And Dell has also had a great attach motion, which captures extra value from our services business and our software and peripherals business like displays. As I mentioned earlier, we have a track record of share gain and we'll continue to consolidate and modernize by focusing on our key growth drivers, that modern PC experience, the Win 11 refresh that's coming. Consolidation amongst the top 3 providers. And our consumer direct as well as our direct attach with services and S&P. Tougher compares that we're going to face in our fiscal '23? I mean we know we won't grow 27% every year. I guess we can aspire to, but probably won't grow 27% every year. But I like the trends we're seeing, and I'd expect sustained growth over the long term.

Great. The server business is the next largest business for Dell, obviously, a market share leader there as well. So maybe just talked at a high level, what is your strategy in the server market? How do you service the hyperscale providers? And how do you differentiate in the server market?

Sure. Well, it has been great to see a rebound in the data center demand as IT spending recovers. As you mentioned, we hold #1 revenue share in mainstream servers, not hyperscale and x86 servers, with mainstream share up roughly 560 bps over the last 5 years. So nice continued progress there. We saw demand momentum grow throughout the year, which has been really great to see. Data is being created everywhere and an exponential rate, with an expansion of multi-cloud Edge, 5G, all of those are helping to create more data. And more data means you need more servers. We're well positioned with distinct advantages. I mentioned some of them already, but our go-to-market, our supply chain scale, our portfolio innovation as well as our Dell Financial Services business. Our growth drivers we see upcoming are the -- our new 15G servers that have adaptive compute to handle any workload. Those cross-sell opportunities within our buyer base with our Power Up program and high-value servers with intensifying workload demand for AI and ML. We're focused on managing the business for the long term.

Excellent. On the storage business, obviously, the EMC acquisition really catapulted your presence in the storage market. I think you mentioned earlier, 3 straight quarters of growth.

That's right.

Talk about that business a little bit more, the competitive dynamics and where you see the storage business going forward?

Sure. So our storage portfolio is the broadest in the industry and we're #1 in all categories. And we're not just #1, we're bigger than #2 and #3 combined. We are aggressively innovating with our Power portfolio. So that's our PowerStore, PowerScale, PowerFlex, et cetera. And we're delivering regular and significant releases on each of those products. FY '22 was an inflection point for storage. Orders, we saw orders growth the fastest since the EMC acquisition. And we saw that growth in all geographies. Our midrange orders were up double digits, and our mid-range PowerStore offer remains the fastest ramping in the storage history for Dell EMC. And I'd also say PowerStore has been bringing a lot new Dell storage customers. So new to Dell storage customers, up 26%. And then repeat buyers, so repeat storage customers have also been -- PowerStore customers have been increasing. We saw that at 29%. Our focus is on orders growth. So we want to make sure we continue to grow orders and our modern power architecture as well as the midrange market. We expect demand growth for FY '23 and then we expect the P&L to increase over the course of the year. And so given our higher software content, our services content, it does take a bit of time for that demand growth to be reflected within the P&L. But I'm optimistic that we will continue to see data proliferation, which requires more storage.

Absolutely. A big event was the spin of the 80% ownership of VMware. Just talk about how that affects the business? How that affects the relationship with VMware? In particular, where you partner very tightly, which is around hyperconverged?

Sure. Well, we continue to have a first and best approach with VMware. With joint collaboration areas, like you mentioned on hyperconverged with our VxRail solution. amongst others. And we're working together in new areas to join innovation, like Edge, Telco, 5G and composable infrastructure. We have a commitment to drive VMware revenue through the Dell sales channel, which represented about 38% of VMware's revenue in Q3 and helps VMware to preserve the relationship they have with Dell Financial Services. Our commercial agreement formalizes our joint commitment to product innovation and that go-to-market alignment. However, this is a first and best approach, not a first-and-only approach, and we'll work with others where we need to. Our customers will have choice and access to a variety of solutions to meet their needs.

On capital allocation and returning cash to shareholders, you talked about debt paydown last year. You talked about 40% to 60% of cash flow being returned to shareholders, which is pretty aggressive. That's more than we see most companies. So clearly focused on returning cash to shareholders. Maybe just talk, longer term, what the framework might look like and how sustainable that framework is?

Sure. Well, we've always had strong cash flow generation, which I think has been overlooked in the past few years as we've been using 90-plus percent of our free cash flow on debt paydown. We are going to return 40% to 60% adjusted free cash flow to shareholders, as you mentioned, over the long term. And that includes the dividend of $1 billion this year as well as our share repurchase program, which will primarily be following a programmatic approach as we manage dilution and opportunistically return capital to shareholders. With remainder of our free cash flow, we might say, what are you going to do? Well, you'll see some additional debt paydown over -- in the future as we work towards that 1.5x core leverage ratio. And you'll see organic investment in both our core businesses as well as those new growth opportunities that I've been talking about. And you might see some targeted M&A that enhances our IP that's certainly aligned with our strategy.

And then one area of the business, we didn't talk about just quickly on Edge and Telco. What are the growth opportunities specifically in Edge and Telco? And how are you guys positioned to address customer needs?

Sure. Well, as I mentioned before, our leadership position in our core businesses and durable competitive advantages, we believe facilitate growth in these spaces like, Edge and Telecom. Edge is a large market, about $110 billion TAM, with a 17% CAGR from calendar '20 to '24. Data is everywhere. And for many organizations, their compute storage and networking capabilities are centralized in a decentralized world that we're living in now, with an increasing reliance on hybrid and multi-cloud strategies to manage applications and workloads. The Edge is now an additional cloud locality, what we've been calling the third premises. Organizations need to accelerate their IT strategy to bring compute, cloud services and ultimately, data management to the edge of the context of multi-cloud strategy. Edge is highly vertical. Solutions and applications at the Edge must support specific needs that might be manufacturing, might be retail, might be enterprise services, et cetera. Dell has the broadest Edge portfolio available. A recent Dell Technology survey found that 69% of the Fortune 100 companies already used Dell in some capacity for their Edge infrastructure. We're bringing cloud services and compute to the Edge. We can provide a consistent approach to infrastructure, data applications and security across the entire environment, one that is currently very fragmented. We also see Telecom as a great growth opportunity, with a large adjacent addressable market. That's about $114 billion TAM growing at a 2% 4-year CAGR. The industry is looking for more open, low-cost network architecture and a partner that will drive the system integration and services. Network operations -- network operators need to cloudify their network architectures for 5G and widespread connectivity. And we are uniquely positioned to modernize IT for the Telecom in ways we've modernized IT for their enterprise. Our Telecom Systems Business combines industry expertise, Telecom solutions and services to help CSPs transform their operations, modernize their networks and enhance their services portfolio. We're uniquely positioned with our global supply chain and services reach. We can procure, we can deploy and provide services at scale. We have existing relationships with Telecom customers, supporting their PCs and data center buys. And now we're focused on that network footprint. We are building software and partner ecosystem to provide customer solutions. In Dell, we continue to lead in software-defined virtualization of the open radio access network. Clearly, a disruption of traditional and proprietary Telecom equipment is well underway. And as a result, this opportunity is a great one for Dell Technologies.

Excellent. So we'll close with one final question. And as I mentioned at the beginning, you've been at Dell for almost 25 years. And I just -- what would you tell investors really excites you that we don't already know about? What else might be underappreciated about the Dell story? It's been a fascinating story to watch over 30-plus years and -- just wanted to give you the opportunity to talk about what else excites you.

Thanks, Brian. I am really excited about Dell, and I'm really excited to be a part of this journey. Dell's continued to transform itself and reinvent itself over the years. We operate in a very large market, with plenty of headroom to grow both in our core businesses as well as in new opportunities like Edge and Telco. We've been unlocking shareholder value by simplifying our corporate and capital structures. Looking forward, we expect 3% to 4% revenue growth, with EPS growing at 6% or better. And now that we're investment grade, we'll execute a more balanced capital allocation strategy, including capital return to shareholders. And I believe there's valuation upside to where we are today, given our current PE ratio below 8x. I believe, we believe, our future is really bright, and I'm excited about growing our business and continuing to deliver for our customers and for all of our investors.

Well, it's been a great story. And thank you, Yvonne, for being here today, and thank you to the Dell team. We're going to leave it there. And thanks, again.

Thanks, Brian, for hosting us.