Dell Technologies Inc. — Form 10-Q Summary
Reporting period: Fiscal second quarter ended July 31, 2020, and first six months of fiscal 2021. Comparisons are with the corresponding periods ended August 2, 2019. Amounts are in U.S. dollars; financial statement figures are in millions unless otherwise stated.
Business context
Dell Technologies is a global technology provider with three reportable segments: Infrastructure Solutions Group (ISG), Client Solutions Group (CSG), and VMware. The company described COVID-19 as creating substantial uncertainty and shifting demand toward remote-work and business-continuity technology. RSA Security was classified as held for sale at quarter-end and was sold on September 1, 2020.
Financial performance
| Metric | Q2 FY2021 | Q2 FY2020 | First half FY2021 | First half FY2020 |
|---|---|---|---|---|
| Revenue | $22.733B | $23.370B | $44.630B | $45.278B |
| Gross margin | $7.156B; 31.5% | $7.326B; 31.3% | $14.009B; 31.4% | $14.123B; 31.2% |
| Operating income | $1.136B; 5.0% | $519M; 2.2% | $1.838B; 4.1% | $1.069B; 2.4% |
| Net income | $1.099B | $4.232B | $1.281B | $4.561B |
| Net income attributable to Dell | $1.048B | $3.416B | $1.191B | $3.709B |
| Diluted EPS | $1.37 | $4.47 | $1.56 | $4.84 |
- Quarterly revenue fell 3%; product revenue declined 7% while services revenue grew 10%. First-half revenue declined 1%, with products down 5% and services up 10%.
- Q2 segment revenue and operating income: ISG $8.207B and $973M; CSG $11.203B and $715M; VMware $2.908B and $894M. Year over year, segment revenue changed by -5%, -5%, and +10%, respectively. VMware operating income grew 19%; ISG and CSG operating income declined 7% and 27%.
- Operating income improved sharply versus the prior year largely because the prior-year period included $619M of Virtustream impairment charges. Adjusted EBITDA was $3.100B in Q2, down 2%, and $5.707B for the first half, essentially flat. Non-GAAP net income declined 7% in both periods; these company-defined measures exclude specified costs and should be read alongside GAAP results.
- The unusually high prior-year net income reflected discrete tax benefits of $4.5B in Q2 and $4.9B in the first half. FY2021 net income also includes a $746M discrete tax benefit from an audit settlement; Q2 pretax income was $500M while the income tax benefit was $599M. Thus, GAAP net income comparisons are substantially affected by tax items.
Cash flow, debt, and liquidity
- First-half operating cash flow was $2.536B, down from $3.962B. Dell attributed the decline mainly to higher inventory associated with COVID-19 and timing of purchases and vendor payments. Investing activities used $1.409B; financing activities provided $827M.
- Cash and cash equivalents were $11.221B at July 31, up from $9.302B at January 31. Including restricted cash, cash totaled $12.053B. Dell reported $5.871B of remaining availability under revolving credit facilities and $17.092B of cash plus available borrowings; $4.7B of cash was held by VMware.
- Total debt was $54.537B principal, or $53.953B carrying value, versus $52.665B principal at January 31. Core debt was $34.119B. The company said it remained focused on core-debt reduction; it reported no scheduled core-debt maturities in the second half of FY2021. A $4.0B margin loan facility matures in April 2022.
- Management stated that cash, expected operating cash flows, and available revolving borrowings should be sufficient for at least the next 12 months. Dell was in compliance with its financial covenants at quarter-end. Capital expenditures for FY2021 were expected to be $2.2B–$2.3B, including approximately $1.0B for DFS operating-lease equipment.
Material changes, outlook, and risks
- Demand and margins: ISG faced weaker infrastructure demand and competitive pricing. CSG benefited from notebooks and consumer/gaming demand but saw commercial-desktop weakness. Management expected a higher consumer and entry-level notebook mix in the second half, potentially pressuring CSG results. VMware grew on subscriptions, SaaS, hybrid-cloud, digital-workspace, and maintenance demand; management warned that COVID-19 could adversely affect VMware results in future periods.
- Costs and supply: Management expected aggregate component costs to be inflationary in Q3 FY2021 and deflationary in Q4, subject to demand and supply conditions. Processor and other limited-source component constraints affected shipment timing. Some pandemic-related cost savings could phase out over time.
- COVID-19 response: Dell cited hiring limits, lower consulting and contractor costs, travel restrictions, suspension of the U.S. 401(k) match, and lower facility costs as measures to preserve liquidity. It also intended to offer up to $9B in customer financing support, including low- or zero-interest programs and payment deferrals; management did not expect a material financial impact from these programs.
- Revenue visibility: Remaining performance obligations were approximately $37B at July 31; Dell expected to recognize about 62% in the next 12 months. Estimates may change due to contract terminations, scope changes, revalidation, currency, and other factors.
- Strategic and unusual items: Dell completed the RSA Security sale after quarter-end for approximately $2.082B cash. On July 15, Dell said it was exploring alternatives for its VMware ownership, including a potential spin-off; the process was exploratory, and any spin-off would not occur before September 2021. Dell also recorded a $120M gain on a sale of internally developed intellectual property in Q1.
- Contingencies: VMware had accrued $237M for a patent-infringement jury award to Cirba; post-trial motions remained pending and the final outcome could differ materially from the accrual. A separate Class V transaction shareholder suit proceeded to discovery after a motion to dismiss was denied. The company said it did not believe material losses above amounts accrued were reasonably possible, while noting litigation outcomes are inherently uncertain.
- Other risks: Credit-loss estimates for trade and financing receivables reflect uncertain COVID-19 and macroeconomic conditions. Dell settled the IRS audit for fiscal years 2010–2014 and paid $435M on August 3, 2020; IRS examinations of fiscal years 2015–2019 had begun. Unrecognized tax benefits were $1.3B at quarter-end.
Important facts for investors to verify
- Underlying earnings and tax-normalized performance, given the $746M FY2021 audit-settlement tax benefit and much larger prior-year tax benefits.
- Working-capital trends, especially inventory, and whether operating cash flow recovers from the first-half decline.
- Debt reduction, refinancing needs, and the distinction between Dell core debt, DFS financing debt, VMware debt, and the margin loan.
- Segment demand and profitability, particularly ISG pricing and costs, CSG product mix, and continued VMware subscription and SaaS growth.
- DFS receivable credit quality and allowance adequacy as pandemic-related economic effects develop.
- Use of RSA sale proceeds and any decision or timing concerning a potential VMware ownership spin-off.
- Developments in the Cirba litigation and tax examinations, including outcomes that could differ from recorded accruals or estimates.