Dell reported a soft Q3, with revenue missing estimates and Client Solutions revenue declining YoY. AI optimized server orders were a bright spot in the quarter with orders rising nearly 13% QoQ to $3.6 billion; however, AI server shipments declined sequentially by 6.5% QoQ.

Despite the strength of AI orders and Dell’s AI pipeline, Dell guided Q4 revenue $1 billion below consensus at midpoint due to a delayed PC refresh cycle. The guide for next quarter was $24 billion to $25 billion, or $24.5 billion at the midpoint compared to analyst expectations of $25.6 billion. The soft PC market is not news to our firm, as it’s something we covered closely in our Q4 webinar.

It’s generally understood that Dell’s participation in building rack scale solutions for the Blackwell generation of GPUs is what makes the stock investable, as opposed to the Hopper generation, where Dell did not participate with hyperscaler customers quite like Super Micro did. There is evidence that Dell will become a leading AI server company next year with a 50% QoQ increase in the five-quarter pipeline, from $11B to $13B last quarter to somewhere between $16 billion and $18 billion. If we read between the lines, Dell’s current AI server backlog is $4.5B but they are guiding for a $6B increase in the pipeline from one quarter alone, which means the backlog is slated to accelerate from here.

Revenue

Dell reported $24.37 billion in revenue in the third quarter, rising 9.5% YoY. This was short of the consensus estimate of 11.1% growth for $24.72 billion. AI growth was most visible in the quarter, with COO Jeff Clarke saying: “Interest in our portfolio is at an all-time high, driving record AI server orders demand of $3.6 billion in Q3 and a pipeline that grew more than 50%, with growth across all customer types.”

This comment is a bit vague, but in the Q&A, an analyst pinpointed the 50% QoQ growth implies $16.5B at the midpoint for the five-quarter pipeline – although back of the napkin math places it potentially higher, up to $19.5 billion on the high end: “I think last quarter you said it was multiples of backlog, which would have put it at $11 billion to $13 billion. And you said it grew 50% sequentially. So are we looking at a backlog that's a pipeline, excuse me, that's like $16 billion or $17 billion.”

Revenue growth failed to return to the double digits as expected in the quarter, but the major shortfall was Q4, with management guiding for revenue between $24 billion and $25 billion. At midpoint of $24.5 billion, this was just over $1 billion below the consensus estimate for $25.54 billion, and represents growth nearly 5 points slower, at 9.8% YoY versus the 14.5% expected.

The PC refresh being pushed out to next year and the timing of AI servers is the reason for the softer guide – here was the full explanation: “I'd say we did bring Q4 revenue guidance down, as you mentioned, Toni, and it's basically those two elements. PCs, it's not a matter of if the repurchase is going to happen, it's when, and we're seeing that move more into next year and then the unpredictability of the AI shipments. And so putting those two things together, we feel strong about the overall performance in Q4, but there's some more timing differences than what we were anticipating when we gave the guide the last quarter.”

Key Operating Segments

Infrastructure Solutions Group

Dell’s ISG segment dipped slightly QoQ, as servers and networking revenue declined sequentially. AI server shipments also declined QoQ, falling from $3.1 billion in Q2 to $2.9 billion in Q3, despite orders rising nearly 13% QoQ to $3.6 billion and backlog rising more than 18% QoQ to $4.5 billion.

ISG revenue of $11.37 billion rose 34% YoY, at the upper end of management’s forecast for low-30% growth, but declined (2%) QoQ.

Growth continues to be driven by servers and networking, with revenue increasing 58% YoY to $7.36 billion. However, this represented a (4%) QoQ decline for the segment and a 2200 bp deceleration in growth rate from Q2’s 80% YoY.

As stated from the CFO, the timing of AI servers played a role in this sequential decline for the segment, as AI server shipments declined (6.5%) QoQ to $2.9 billion, down from $3.1 billion in Q2. This was nothing out of the ordinary, as Dell had said last quarter that AI servers would be down quarter-over-quarter. However, analysts were expecting some higher numbers for shipments, with Evercore expecting $3.1 billion in shipments in the quarter.

Management also noted that their “AI server pipeline grew over 50% sequentially with growth across both Tier 2 CSPs and Enterprise customers.” Outside of AI, traditional server demand also remained quite strong, with management seeing YoY growth for the fourth consecutive quarter.

Per the CFO: “In Traditional servers, demand improved double-digits in Q3, making four consecutive quarters of year-over-year growth, driven by growing units and ASPs with denser core counts, memory, and storage per server.”

ISG’s profitability also improved in Q3, with the segment’s adjusted operating income of $1.51 billion for a margin of 13.3%. This marked a 230 bp expansion from 11% in Q2. Management noted in Q3’s call that ISG’s profitability is expected to continue next quarter. Per the CFO: “OpEx is expected to decline [next quarter] mid-single-digits as we continue to drive efficiencies in the business. We expect the operating income rate to be up sequentially with continued improvement in ISG.”

Client Solutions Group

CSG was Dell’s weakness in the quarter, with revenue in the segment declining (1%) YoY, falling short of management’s guidance for flat to low single digit growth.

CSG revenue was $12.13 billion, down (1%) YoY and (2%) QoQ, falling short of the $12.42 billion estimated by analysts. Commercial revenue increased 3% YoY but declined (4%) QoQ to $10.14 billion, with Dell saying that Q3 was the third consecutive quarter with Commercial demand growth and the second consecutive quarter where they gained share in premium PCs. Consumer revenue was weaker, declining (18%) YoY but rebounded 5% QoQ to $1.99 billion.

Given the strength in AI, PCs are likely to be weak in Q4, and a primary driver of the soft revenue guide.

Margins

Margins improved across the board sequentially, with Dell beginning to show signs of improved profitability as cost-cutting impacts appear. There still is room for improvement, however, as gross margins remain lower YoY.

Analysts were pleased that ISG operating income was up QoQ to 13.3% of revenue, an improvement of 230 basis points since last quarter and up 530 basis points from the beginning of the year, driven by higher gross margin from servers and reduced opex.

• GAAP gross margin in Q3 was 21.8%, up 60 bp QoQ but down 130 bp YoY. Adjusted gross margin was 22.3%, up 50 bp QoQ but down 140 bp YoY. This is a key differentiator compared to Super Micro with a gross margin of 11% last quarter.
• GAAP operating margin was 6.8%, up 140 bp QoQ and 10 bp YoY. The YoY growth stems from cost-cutting efforts, with operating expenses declining 140 bp YoY to 15.0% of revenue. Adjusted operating margin was 9.0%, up 90 bp QoQ and 20 bp YoY.
• GAAP net margin was 4.6%, up 120 bp QoQ and 10 bp YoY. Adjusted net margin was 6.3%, up 80 bp QoQ and 10 bp YoY.

EPS

Despite the top line miss, Dell beat estimates for GAAP and adjusted EPS due to the margin strength in the quarter.

• Adjusted EPS of $2.15 beat estimates by 4.4%. Adjusted EPS growth accelerated to 14.4% YoY in the quarter, up from 8.6% last quarter. Growth is expected to accelerate further to nearly 50% YoY by fiscal Q1 before moderating to the high-teens.

• GAAP EPS of $1.58 beat estimates by 13.7%.

Cash and Balance Sheet

Operating cash flow margin expanded once again sequentially, though cash flows remain much lower on a YoY basis.

• Operating cash flow was $1.55 billion in Q3, declining nearly (28%) YoY but rebounding 16% QoQ. OCF margin was 6.4%, expanding 100 bp QoQ but contracting 330 bp YoY.
• Adjusted free cash flow was $716 million, down (17%) YoY and (44%) QoQ. Adjusted FCF margin was 2.9%, down 220 bp QoQ and 100 bp YoY.
• Inventories reached $6.65 billion in Q3, rising ~$600 million sequentially. Since the end of FY24, inventories have increased just over $3 billion, or nearly 84% growth in three quarters.
• Cash, equivalents and investments totaled $5.23 billion.
• Debt totaled $25.02 billion.

The company repurchased 3.7 million shares of stock for an average price of $107.53.

Earnings Call:

Dell’s Rack Scale Systems

In the call, the company discussed the IR7000 server, which will include up to 144 GPUs per rack, which is double the size of Nvidia’s NVL72. Dell also plans to release the PowerEdge XE9586L with u up to 96 Blackwell GPUs and AMD’s 5th Generation GPUs and up to 12 PCIe5 slots. The PowerEdge M7725 offers up to 27,000 CPU cores and is powered by AMD 5th Generation CPUs to deliver more compute in less space.

Most of these new rack scale solutions will ship in Q1 and Q2 of calendar year 2025.

Below is the full quote as this is key to understanding why Dell should have a strong year next year:

“We have accelerated the speed of innovation to respond to our customers' GenAI needs over the past year. A few highlights from the past two months. We launched our 21-inch ORv3 Integrated Rack 7000, in both a 44 and 50 OU rack design with integrated cooling, power and networking that is multi-generational and future-proofed up to 480 kilowatts per rack.

This rack falls in our Integrated Rack Scaleable Solutions, which are focused on at-scale deployment ensuring Dell's AI Factories can meet the demands of foundational training at the Data Center scale. We are shipping the industry's first enterprise ready GB200 NVL72 server racks with our new XE9712, with direct liquid cooling that holds up to 72 GPUs per rack.

We also announced at SuperCompute 24 a new AI server supporting NVL-4, also with liquid cooling, supporting up to 144 GPUs per rack, one of the industry's most dense designs. And we have the M7725, a dense compute design, which supports up to 27,000 CPU cores per rack to meet high-performance computing demands.

Our IR5000 can achieve up to 96 GPUs per rack with a more traditional 19-inch rack design. Within the IR5000, which includes the XE9680L, we introduced the XE7740 and XE7745, designed for Enterprise customers focused on inferencing.”

For storage, Dell offers a PowerScale platform for file and object storage, PowerEdge for data analytics, and most recently, has launched a data lake warehouse based on the idea that most data is on-premise and this will only intensify with AI.

Management was adamant that storage will become a growth driver for their company: “I mean, I think I've said publicly multiple times that the AI opportunity for storage is immense simply because GPUs devour data. I mean, you have to feed the beast, and they're not very effective without a lot of information” […] “And remember, 80% of the data is on-prem. So we think AI is driving new needs in the storage architecture, which really drive to a three tier architecture. So the ability to scale, the ability to drive efficient deployment of storage, the ability to be flexible and above all high performance are all things required to meet these high performance modern AI workloads and that's what our portfolio is. The Dell IP portfolio is a three tier architecture moving towards disaggregated that allows us to scale CPU and storage and networking independently to optimize for performance.”

PC Refresh Cycle Pushed Out to Next Year

Dell is contending with a weak PC market, which is weighing considerably on the report after hours. Per management: “More Enterprise customers are beginning to refresh, albeit modest and in a more price competitive environment. We are seeing an indication that customers are lining up their upgrade cycles with new AI PCs in the first half of next year.”

Later it was stated the miss for next quarter was a result of PCs and timing on AI servers:

“Yes. I'd say we did bring Q4 revenue guidance down, as you mentioned, Toni, and it's basically those two elements. PCs, it's not a matter of if the repurchase is going to happen, it's when, and we're seeing that move more into next year and then the unpredictability of the AI shipments. And so putting those two things together, we feel strong about the overall performance in Q4, but there's some more timing differences than what we were anticipating when we gave the guide the last quarter.”

Dell Surprises on Margins; An Area to Watch

This quarter, Dell surprised with better-than-expected margins. This is key, as before Super Micro became the target of short seller reports and accounting issues, we stepped aside due to margin issues and cash flow issues.

Tariffs could impact margins although the CFO stated they are not foreseeing margin issues at this time from tariffs: “So I can talk a bit about the Q4 guide and we have taken into account in that guide the mix within AI and expecting, but expecting those margins, which I know we don't talk about holistically, but expect them to stay relatively consistent. So the mix would be what's driving there. We've talked about AI revenue and our offerings being margin dollar accretive and margin rate dilutive.”

This was also a strong statement in terms of why margins may remain higher than competitors: “Per the CEO: “I think we've tried to reflect that in our previous comments, but to maybe try to be very specific here, the opportunity is beyond the node into full rack scale integration. And in full rack scale integration, it's the networking opportunity, the storage opportunity, mundane things like cooling and how you actually build very efficient cooling subsystems to take the energy density out, how do we do power distribution, power management, putting telemetry in, doing power management, all of those are opportunities for us to expand our margins and why we believe we have a differentiated solution and ultimately are at a premium to our competitors.

Conclusion:

The I/O Fund is starting to prepare our portfolio for the transformational change to how servers are built – which is breaking the upper limits of what was once thought possible at the server-level. AI-forward enterprises and Big Tech especially is moving from systems with 8 GPUs to systems with 72 GPUs with Dell offering rack scale designs of up to 144 GPUs and also dense compute options with up to 27,000 CPU cores. The way in which Dell will take business from Super Micro is not only in reputation but also in scale.

Dell made it clear they were the first to market with the NVL72 systems, providing a hint of what’s to come. The 5-quarter pipeline growth of 50% QoQ is being overshadowed, and this is the kind of data point our company looks for. Due to the complexity of Blackwell servers, it’s likely key Blackwell suppliers will exceed Nvidia’s stock returns next year. Dell is top of mind on the candidates for this list.

Recommended Reading:

• Dell Q3 Earnings Preview: Riding the AI wave
• Q4 2024 Earnings Kickoff Webinar Replay
• Cloudflare Q3 24: Soft Q4 Guide as Company Transitions on Billing Terms
• Nvidia Q3: Lackluster Quarter until Blackwell Arrives
• Real Vision Video Interview: Will Nvidia Continue to Dominate AI?

Dell stock shot up 31% following its fiscal Q4 results. The market was excited to see orders for AI-optimized surge 40% QoQ despite only contributing 5% of overall revenue. There is certainly room in Dell’s valuation when management convinces the market it’s a serious AI player with each subsequent earnings report. Compared to other AI stocks, Dell is a slow-growth company, per analyst estimates. As a percentage of revenue, SMCI has 50% AI revenue versus Dell’s 5% AI revenue.

There is also a concern among analysts due to dilutive margins from the company’s AI server portfolio, mixed with additional pricing pressures on traditional servers due to inflationary pressures and an intensely competitive market.

Ultimately, there are a few key things we’d like to see from Dell as we consider a position. We detail this and more below.

Revenue and Earnings:

Dell reported fiscal Q4 revenue of $22.3 billion for revenue decline of (-10.9%). This was flat QoQ but an improvement from the April quarter at (-19.9%). Dell is expected to return to positive growth next quarter at 3.3% for revenue of $21.6 billion.

For the full year, analysts are expecting growth of 5.8% for revenue of $93.5 billion.

Revenue Segments:

The lower total revenue was driven by a (-6%) decrease in Infrastructure Solutions Group (ISG) and a (-12%) decrease in the Client Solutions Group (CSG) YoY.

Client Solutions Group (CSG) delivered fourth quarter revenue of $11.7 billion, down (-5%) sequentially and (-12%) year over year. Commercial client revenue was $9.6 billion, and Consumer revenue was $2.2 billion. Operating income from the segment was $726 million. Full-year CSG revenue was $48.9 billion, down (-16%) year over year, and full-year operating income was $3.5 billion, down (-8%) year over year.

Moving forward, CSG is expected “to be down in the low single digits, so minus three about year-over-year.” Management has indicated a recovery in PCs is likely in the second half of the year.

Infrastructure Solutions Group (ISG) incl AI revenue:

ISG revenue was $9.3 billion, down (-6%) and up 10% sequentially. Servers and networking revenue was $4.9 billion, down (-2%) year-over-year and up 4% sequentially. ISG operating income was 15.3% of revenue and $1.4 billion was down (-7%), driven by a decline in revenue and a lower gross margin rate given the higher AI-optimized server mix, partially offset by lower operating expense.

Moving forward, ISG is expected “to grow in the teens driven by traditional and AI services.” Per the CFO: “[…] from a traditional server standpoint, we're expecting modest growth, so growth in the upcoming year. AI servers, certainly a very strong growth, especially from a year-over-year standpoint. And then storage, will lag a bit, but we expect tailwinds as the year progresses in the storage portfolio.”

Per management: “Our AI mix of server demand increased again sequentially given strong customer interest in GenAI.” The company shipped $800 million of AI-optimized servers with a backlog that “nearly doubled sequentially, exiting the fiscal year at $2.9 billion.” The press release stated orders increased nearly 40% sequentially and backlog nearly doubled to reach the $2.9 billion. Regarding how the backlog digests, it was later stated: “We believe we will ship more in Q1 than we shipped in Q4. As we look forward in our annual guidance, Yvonne has our best estimate of our demand and fulfillment of that demand that we've put into the annual guidance.”

Additional commentary was offered on the earnings call: “Demand continues to outpace GPU supply, though we are seeing H100 lead times improving. We are also seeing strong interest in orders for AI-optimized servers equipped with the next generation of AI GPUs, including the H200 and the MI300X. Most customers are still in the early stages of their AI journey, and they are very interested in what we are doing at Dell.”

Storage revenue of $4.5 billion was down (-10%) year-over-year and up 16% sequentially. Per management: “demand improved sequentially across the storage portfolio, above our normal seasonality.” Storage reported improved profitability due to a mix of proprietary storage software.

Margins:

Margins have improved YoY as the company juggles margin contraction and margin expansion in varied segments. The company is not expected to continue this trend of improving profit margins for a few reasons. First, the high-growth AI market is generating lower margins than the company’s other leading products. In addition, the company expects input costs to increase further in FY25, driven by anticipated inflation for component costs as the year progresses. Management also anticipates the pricing environment to be more competitive in FY25.

Gross margin has been steady at 23% to 24% although this may change with higher AI product mix and also inflationary input costs. Gross profits were $5.32 billion last quarter. The CFO guided a 100-basis points moderation in the adjusted gross margin for FY2025 and to be 200 bps lower next quarter. For reference, FY2024 adjusted GM was 24.3%.

Operating margin of 6.7% is up 190 bps from the year ago quarter as operating expenses as a percentage of revenue was reduced to 17.1% compared to 18.3% in the same quarter last year. This is also higher than FY2024 at 5.9% operating margin. Adjusted operating margin was 9.6%.

Net margin of 5.2% was up 270 bps from the year ago quarter. This is higher than FY2024 net margin of 3.6%. The adjusted net margin was 7.2%.

Margins were a focus in the Q&A with the CFO expanding on what will drive lower margins next quarter:

“And then we get to gross margin rate, which I think is the key to your question. So we expect that to be down quarter-on-quarter, about 200 basis points. Now, what is supporting that expectation? We are seasonally lower in storage mix. We see that every Q4 to Q1, so that's one of the drivers. We will have higher AI optimized server mix in Q1. Jeff already talked about that in question.

And then holistically, we have another few influences on the margin. We've got an inflationary component cost environment. We're moving from deflationary last year to inflationary in the year that we are in right now. And then I'd say there's more competitive pressure. We're seeing more and more of that. And so that's what we expect to be impacting the gross margin. And I'd say operating margin rates will be down quarter-over-quarter due to all the items I just mentioned. But for the year, we're expecting improved performance as the quarters progress.”

Regarding competitive pressure, this is coming from traditional servers. Per the CEO: “we did see in traditional servers that in large bids, the competitiveness did increase quarter-over-quarter in Q4. We expect that to continue.”

Dell had a large beat on adjusted EPS reporting $2.20 compared to $1.72 expected for a beat of 27.9%. Next quarter, the company is expected to report $1.22 for a decline of (-7.1%). We discussed above some of the factors like inflationary cost pressure, seasonality lower storage revenue mix, and higher proportion of AI product mix for lower margins in the next quarter.

Cash Flow:

Operating cash flow of $1.53 billion in fiscal Q4 represented a margin of 6.9%. Free cash flow of $806 million represented a FCF margin of 3.6%.

There is $8.7 billion in cash and investments on the balance sheet and $26 billion in debt. Debt has decreased since Q4 2023 from $29.59B to $25.99B for Q4 2024 as the company focused on deleveraging.

Dell announced a 20% hike in the annual dividend to $1.78 per share and substantial share buyback program reflects Dell's confidence in sustained cash flow generation and long-term value creation. Per the earnings call: “we repurchased 11.2 million shares of stock at an average price of $74.67 and paid a $0.37 per share quarterly dividend. And earlier today, we announced a 20% increase in our annual dividend to $1.78 per share, well above our long-term financial framework and a testament to our confidence in the business and our ability to generate strong cash flow.”

Earnings Call:

Dell’s management team is expecting a return to growth with a focus on AI and a bullish view on the PC refresh cycle by the exit of FY2025.

AI-Related Revenue

The 40% QoQ growth in AI servers is clearly the driver for the 30%+ after hours pop the day the company reported. Here are some of the more pertinent points discussed on the call regarding AI revenue:

From the CEO, regarding where the demand is coming from – notably, Dell’s management was quite clear their AI opportunity is more with enterprises and on-premise servers as opposed to purely hyperscalers. This helps explain why Dell’s AI revenue is ramping more slowly as it’s more of a phase two server company (phase 2 being enterprise-driven, client-driven, and especially characterized by edge AI).

“Let me start with maybe the demand. And you heard us talk about the demand up sequentially 40%. And that demand was across a rich customer set. The number of CSPs grew, the number of enterprise buyers grew. So for us, two important indicators is less concentrated this quarter than the previous quarter with more customers in both the CSP category and the enterprise category buying from us.And you heard us talk about the demand up sequentially 40%. And that demand was across a rich customer set. The number of CSPs grew, the number of enterprise buyers grew. So for us, two important indicators is less concentrated this quarter than the previous quarter with more customers in both the CSP category and the enterprise category buying from us.

That demand was spread across the H100, H800, the H200 and the MI300X. So we sold a broad portfolio or a broad portfolio of silicon diversity into the marketplace for our customers […] Probably another important characterization about the demand and how the backlog looks is the pipeline grew. We talked about our five-quarter pipeline at the last call. The five-quarter pipeline grew this quarter as well. So who we sold to grew. The potential of who we're going to sell to grew. The number of shipments that we had during the quarter grew and the backlog grew. And we expect to ship more in Q1 than we shipped in Q4. I hope that was the color that you're looking forbably another important characterization about the demand and how the backlog looks is the pipeline grew. We talked about our five-quarter pipeline at the last call. The five-quarter pipeline grew this quarter as well. So who we sold to grew. The potential of who we're going to sell to grew. The number of shipments that we had during the quarter grew and the backlog grew. And we expect to ship more in Q1 than we shipped in Q4. I hope that was the color that you're looking for.”

In Jeff Clark’s, CEO, opening remarks, “We saw strong demand continue for our AI-optimized server portfolio, including our flagship PowerEdge XE9680, which remains the fastest-ramping solution in company history. We have just started to touch the AI opportunities ahead of us, including broader adoption of AI by enterprise customers and the projected growth in unstructured data where we are well-positioned with industry-leading storage solutions.”

Margins, and the fact Dell’s AI servers have dilutive margins, was a common focus for analysts on the call. AI server sales were less than 5% of overall revenues, however it’s expected AI will have a negative impact on profit margins for the company as it grows. As of now, margins have expanded YoY and QoQ.

Enterprise is an AI Opportunity for Dell:

I want to drill down on the comment I made above that enterprise is where Dell anticipates they will see a larger AI product mix as they will then be able to cross-sell. On the call, Dell’s CFO pointed toward enterprise being a larger opportunity than hyperscalers for their servers. The CFO stated: “What I'm really excited about is the other thing that Jeff talked about on really getting more and more value out of our GPU servers, really with, as we move more and more into the enterprise and get more richly configured, more services, etcetera, attached to that.”really getting more and more value out of our GPU servers, really with, as we move more and more into the enterprise and get more richly configured, more services, etcetera, attached to that.”

The CEO backed this up by saying: “That's the path. There's storage, deployment services, pro support, our consulting services, networking, so in the entire basket of the solution.”

Later, the CEO stated again: “I need to mention we got a storage opportunity in there, that we have a networking opportunity in there, and we have a services opportunity in there and to go for the last of the bunch of financing opportunities. So those — how could you not be excited about that given the demand environment?”

Sizing the AI-Related Opportunity

There were also questions about how big the opportunity is and how Dell will participate as TAM rapidly grows at 20% CAGR over the next few years. The CEO answered with the following:

“The first thing you probably noticed in our web deck is we increased our view of the opportunity in the marketplace to $152 billion, 20% CAGR going forward to 2027. And quite frankly, that's probably a lagging indicator. It's still catching up. We think demand continues to be ahead of that. Primarily driven is the overall desire, demand for the computational components to do AI exceeds the supply picture. And quite frankly, it's refreshing to see. We have a high growth category here.”

This was one of the more important comments on the call:

“And then if I think long-term going forward, as we look at the opportunity, and again, we referenced the $152 billion in our web deck, but we've done some analysis that's available out in the public domain, but we're looking at an opportunity where every dollar that is for a AI server, GPU server, there's $2 to a growing $3 of professional services around that, networking around that, storage around that.”but we've done some analysis that's available out in the public domain, but we're looking at an opportunity where every dollar that is for a AI server, GPU server, there's $2 to a growing $3 of professional services around that, networking around that, storage around that.”

In October, Dell published an Investor’s Presentation that showed the AI hardware and services opportunity (ISG segment) growing at 18% CAGR for $124 billion by 2027. In the quarterly presentation, the company updated this to a 20% CAGR reaching $152 billion by 2027.

An analyst from Citi asked about the change in total addressable market (TAM) on the call:

Asiya Merchant

Hey, thank you for very much for taking my question. Great results by the way. Just a quick question. I know you guys refreshed sort of your AI TAM as part of this presentation. Just the questions that I get from investors, as you think about the 150 billion TAM that you guys are highlighting now in 27, given Dell's share in storage, obviously your server, mainstream server share and overall share tam in servers. How do you guys think about your share in this 152 billion market by 27? Should we assume the share that you guys have now for servers and storage translates itself into the 150 billion share TAM equivalent? Thank you.

Jeff Clarke:

[…] quite frankly, that's probably a lagging indicator. It's still catching up. We think demand continues to be ahead of that. Primarily driven is the overall desire, demand for the computational components to do AI exceeds the supply picture. And quite frankly, it's refreshing to see. We have a high growth category here […] So this notion of enterprise, our enterprise customer base growing, we've sold to education customers, manufacturing customers, governments. We've sold to financial services, business, engineering and consumer services companies. They're seeing vast deployments, proving out the technology. And some cases are using the tooling of the public cloud. And then they quickly find that they want to run AI on-prem because they want to control their data. They want to secure their data. It's their IP and they want to run domain specific and process specific models to get the outcomes they're looking for.”

Foxconn also stated the AI server market will reach $150 billion by 2027, yet stated it would be due to cloud service providers (CSPs) whereas what Dell is describing is a bit different, as their view is that it will be driven by enterprises.

Following the Q&A, the Citi analyst updated to the following: “Our estimates move higher on higher revenues with slightly lower gross margins offset by tighter operational expenditures. Our estimates assume AI revenues of around $10B by FY26/CY25, and we see upside to $12-15B."

However, this seems low if Dell has a server market share of 21% according to Statista. Dell’s recent investor’s presentation shows a server market share of 31% and “accounts for 43% of new industry revenue over the past 10 years.” Dell also has a 30% market share in storage and “accounts for 38% of new industry revenue over the past five years.” Due to AI revenue being quite speculative at this point (although off to a great start on the sequential growth), it’s likely these estimates are conservative.

Source: Dell’s Investor Presentation

Traditional Server Market & PCs Rebounding (Per Dell):

What is key to our Micron, Broadcom positions and even AMD is the PC rebound as this is when the combination of AI revenue merging with other leading segments will be most evident. The same is true for Dell, and even more so.

According to management, traditional servers will no longer weigh on the company’s revenue in the near-term: “We talked about traditional servers. There's momentum there. Three consecutive quarters of sequential growth and demand. First quarter in a long time of year-over-year demand growth. We exit with good momentum. We tried to reflect that in our guidance. That is in all geographies.”

Since Dell is a major player in PCs, are also noting here comments on when PCs will see a recovery:

“Do I expect the PC market to be bigger in calendar 2024 than 2023? Yes. Do I think the PC market is likely bigger in the second half of 2024 than it is in the first half? Absolutely so. Hence our remarks that we believe the opportunity in PCs is second half driven.”

Dell is a Valuation Story, Like SuperMicro:

Last summer, I made the argument on Fox Business News that integral to our position in SMCI was its valuation, as moving from a commoditized hardware stock to an AI stock would surely boost the valuation from roughly a 1 Fwd PS to something more reflective of an AI stock. About six months later, in January of 2024, SMCI shot up in valuation to 3 Fwd PS.

Therefore, if Dell continues to report more AI revenue, then the company will be on the precipice of challenging its valuation as a commoditized hardware company. To be clear, Dell is not on par with Super Micro in terms of its AI revenue. Dell has 5% AI revenue and SMCI has a whopping 50%, which we called out as a top company in terms of AI revenue in August.

By 2027, if the Citi estimate is correct, Dell would have about 15% of its revenue from AI if we use the $15 billion. If the $30 billion is what materializes (based on Dell’s current server market share of 21% based on a market size of $152B) then there’s potential to reach 31% of revenue from AI by 2027. Both are speculative but also reasonable given Dell’s dominance in servers.

Truly, Dell is a different profile than Super Micro as Dell is a more conservative, blue chip stock and Super Micro is a high-flier that was a small cap less than a year ago. Super Micro has also announced its intent to raise $2 billion from an equity sale compared to Dell’s $836M buyback program this year alone while also offering a rare dividend among tech stocks.

Dell has a net margin of 5.2% and adjusted net margin of 7.2% which is lower than Super Micro’s at 8.1% and 9%, respectively. However, Dell has scale to help offset a lower margin.

On the bottom line, Dell is trading well at a forward PE ratio of 16.7 above its 3-year median at 11.3. However, if/when Dell is re-rated as an AI stock, there is plenty of room as most AI peers are trading at a 40-50 forward PE ratio.

Technical Analysis

By Knox Ridley

There are two scenarios that best fit the price action of Dell. The direction that we break out of the range between $107 and $137 will determine what path we game plan for.

Green – This scenario would have Dell decisively breakout above $137 on expanding volume and in a straight line. This would signal that we are around the halfway mark of a large degree 5 wave pattern. This would be targeting $275 – $395 before the next notable pullback.

Red – This scenario fits well, especially considering the move off the 2022 low is a clean 5 wave pattern. Note that momentum is fading as price is pushing higher. This fits with a coming pullback, which would start a 4th wave toward the $70 region. A decisive move below $107 would likely put a notable top in for Dell, and favor the red scenario.

There has been considerable institution activity above the $107 region. Either this is accumulation for the next leg higher, or it is distribution for the red scenario. This increases the importance of this region.

Conclusion:

The last earnings report showed signs of early shoots for Dell’s AI potential. If enterprise servers are going to see an AI overhaul, then it makes sense that Dell will participate. What we like about Dell is its conservative blue-chip profile, characterized by a company that operates at scale, offers a buyback program and a dividend. This offers some diversification compared to Super Micro’s risk-on profile.

Even though Dell is optimistic about FY25 growth, in large part thanks to AI server growth and an expected uptick in storage, the company expects input costs to increase further in FY25. This is going to weigh on margins, driven by anticipated inflation for component costs as the year progresses. They also anticipate the pricing environment to be more competitive in FY25, further putting pressure on margins to shrink. This will be a strong focus for calls, as it is for Super Micro, as well.

We would love to participate in Dell if the re-rating on valuation comes sooner rather than later. However, we also want to be cautious as the 5% AI revenue is quite low. We are likely to wait for the breakout detailed above instead of front-running this stock as any breakout will still provide plenty of time to capture Dell if it does get a new valuation.

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