Cracking Dell's Code

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Sailing in the wake of rivals' innovations and setting the market with low-cost products, Dell has made a fortune. But competitors and their channel partners are taking price out of the equation and beating Dell by enhancing partner relationships, improving services and focusing on high-end solutions. The result: Dell's low-cost, direct model is hitting chop. "Dell has had a very focused strategy: Don't spend a lot on research and development, leverage the work of others, and deliver cookie-cutter servers and desktops cheaply," says Gordon Haff, senior analyst with market researcher firm Illuminata. "That lined up well with the market when saving money was in. But IT managers have to consider more than price now in making buying decisions." Dell declined several requests by VARBusiness to interview its executives for this report. But there's a bevy of data and expert observations that draw a bleak picture of Dell and, as a result, what opportunities that opens for solution providers.

Dell is still at or near the top of the heap in most core computing platforms, but the prospects for maintaining its traditional growth rates are dimming, an increasing number of solution providers and analysts believe. Casting a pall over future rapid growth are not just smarter and more aggressive competitors, such as Hewlett-Packard, Toshiba and Lenovo, but also the company's unwavering commitment to shipping only Wintel operating systems and chips, and its wait-until-the-market-develops attitude toward hot technologies, such as Linux, blade servers and dual-core chips.

That inflexibility to gravitate more quickly toward state-of-the-art technologies has prevented Dell from establishing a successful strategy for high-end products--from notebooks to multiprocessor servers--that generate fat margins for competitors.

This past November, Dell promised "reinvigorated growth in the premium space" across all of its core computing platforms as a way of improving profits in 2006. Perhaps the biggest challenge is with servers. The company reported a revenue gain of just 4 percent in the third quarter for server revenue and a 2 percent loss in unit shipments. Dell countered by pledging more dual-core-based servers, improved systems-management software and new Serial ATA hard-drive technologies.

Whether these next-generation, server-based products are enough to help Dell regain momentum is an open question.

Price Isn't Inclusive

Dell remains a formidable foe at the low end of most markets for systems integrators and VARs, where it continues to apply pricing pressures that cut into competitors' margins. But most integrators believe that putting effective services and support programs in place remains the best stance against the direct behemoth.

"If you buy 10 Dells at $399, you have to hire an in-house IT manager to support them for $30,000, so the real cost is $3,999," says William Carr, a senior executive with B3 Computers, a custom systems builder that resells exclusively through VARs. "So, it is critical that resellers continue to point out that [total cost of ownership] involves the purchase price plus the aftermarket services and support."

Dell has yet to deliver even an eight-way Intel server, and has offered no road map on when it might. Conversely, competitors such as IBM and HP have an enormous lead with high-end Intel-based servers that boast up to 32 chips.

"IBM and HP are obviously doing better with four-ways because its primary strategy [with Intel-based servers] is to sell higher-priced systems to corporate accounts and not compete for volumes at the low end," says Steve Josselyn, research director at IDC's Global Enterprise Server Solutions program. "Dell gets a little of that, but clearly the lack of an eight-way server holds them back at the high and even midrange [end] of that market."

Confirming how far Dell has to go in terms of establishing a meaningful high-end, Intel-based server strategy, the company sold a meager five systems--yes, five!--priced at $25,000 or more during last year's third quarter. During the same period, IBM and HP each sold thousands of comparable units, according to IDC.

IBM believes the billions of dollars it invests annually in R&D gives it a clear technological edge over its competitors. Innovation and advancement enable IBM to deliver server-based hardware and software features that businesses are increasingly demanding.

"The $100 million we put into the X3 chip set, which supports four- to 32-way servers, lets users virtualize a server so they can maximize the resources of a database or Web server and ease management costs, which are growing faster than the cost of servers," says Alex Yost, director of product management for IBM xSeries. "There are more ways to save customers money than selling cheaper hardware."

HP, which holds the top spot for Intel-based servers shipped in last year's third quarter, believes it holds that lead over Dell because it is catering to its business users who want bundled solutions made of pieces, such as Windows- and Linux-based blade servers and virtualization software. Many of those solutions are sold through partners.

"Instead of selling units, we are selling solutions that drive a much higher revenue stream to HP and a lower-cost solution to users," says Paul Miller, vice president of HP's industry standard server and blade system organization. "Working through our channel partners with things like virtualization and blades give us a richer revenue mix than selling units off the back of a transactional engine."

Dell's reluctance to push an aggressive blade-server strategy, when those systems have clearly shown the most growth among any server type for well over a year, remains a bit perplexing. The company is a distant third in sales to IBM and HP.

"[Dell's] model of jumping into a market when it is at its fastest pace of expansion and establishing aggressive pricing is why Dell has not hit its stride yet in blade servers," says Joe Gonzales, senior analyst at Gartner. "They have OK numbers, but it is hardly a super-fast ramp-up."

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