Dell Earnings: AI and Spending Recoveries Giving Some Upside, but Still a Long Road to Recovery

We maintain our $46 fair value estimate for no-moat Dell Technologies DELL after they reported second-quarter fiscal 2024 results that crushed guidance but still show the firm in a challenging spending environment overall. Dell’s core businesses have undergone a deep cyclical downturn which appears to have troughed based on fiscal second-quarter results and third-quarter guidance. While we expect a recovery to come, we believe it will be gradual and with fits and starts. Dell is benefiting more than we anticipated from artificial intelligence server demand, showing an ecosystem of AI applications below the hyperscale cloud customers. Nevertheless, the PC market continues to be the largest contributor to results. We think the AI hype has sent Dell’s valuation above its fundamentals and we see shares as overvalued.

Second-quarter sales dropped 13% year over year but rose 10% sequentially to $22.9 billion. Infrastructure sales rose 11% sequentially, driven by AI server demand. While the PC market remains light, Dell noted signs of improvement buoyed by higher pricing, resulting in 8% sequential growth.

Profitability continued to be a bright spot in the quarter, with non-GAAP gross margin up 270 basis points year over year to 24.1%, driven by deflationary input costs and Dell taking advantage of its own pricing. We view these deflated costs as a short-term benefit for Dell and further expect increased pricing pressure in coming quarters, weighing on margins. Non-GAAP operating margin increased 120 basis points year over year to 8.6%, supported by the higher gross margin and expense control in the quarter.

Third-quarter guidance calls for revenue of $23 billion at the midpoint, implying a year-over-year decline, however, flattish sales sequentially. Dell expects margin compression leading to non-GAAP EPS of $1.45, partially offset by higher average selling prices. Dell expects further sequential revenue improvement in fourth quarter, as the demand environment strengthens.