Case Analysis: Dell Computer Spins Out of Control

Instructions: Please read the following case description of “Dell Computer Spins Out of Control”. After reading this case, you should prepare an analysis following the guidelines I have provided. The purpose of this assignment is for you to demonstrate that you can apply the concepts, principles, and theories presented in the course readings. Your analysis must employ only the facts presented in the case description below. You must resist the temptation to introduce facts not in evidence in the case description by searching the internet for updated information. The company’s present situation is not necessarily the ideal solution that could be derived from a careful analysis of the facts as presented here.

This assignment is worth 80 points.   Please post your completed case analysis under the “Assignments” tab. 

Dell Computer Spins Out of Control

Michael Dell, says Harvard’s David Yoffie, “broke the paradigm about how to run a computer business.” By now, the litany of innovations at Dell, one of the top suppliers of personal computers, is pretty familiar: direct selling to customers to avoid retail mark-ups, flexible manufacturing for low-cost customization, and just-in-time inventory to hold down carrying costs. The nature of such innovations makes it clear that Dell’s phenomenal success over the last 25 years owes much to its tightly disciplined operations and vigorously applied controls.

The success of Dell’s “value-priced” business model, for example, reflects effective efforts to control costs. Dell’s North Carolina plant, which opened in October 2005, can produce PCs 40% faster, and with 30% less downtime, than its older facilities in Texas and Tennessee. Unlike these older factories, which must retool equipment for different types of computers, the new plant in Winston-Salem can build any of Dell’s 40 models at any time. “Other factories have a process-driven flow,” explains factory designer Richard Komm. “[This plant] is focused on one thing: How do we get [a computer] to the customer in the shortest amount of time?”

Excellent quality control also holds down costs. At Dell, teams of three workers typically collaborate on the assembly of a PC. Because each individual is assigned a specialized set of tasks, training is simpler and quicker, assembly time is faster, and errors are less common. Each team includes a tester who performs a quick check to ensure that every completed machine is correctly wired and boots properly. Finished machines must also pass inspection and then undergo even more extensive testing, but the purpose of the quick test is to allow the assembly team to catch gross defects as early as possible. The principle, explains Komm, is quite simple: “The faster you get feedback to the operator, the fewer the number of defects.” Dell now catches most defects in four minutes, rather than 60 as in the past, and the overall defect rate is 30% lower.

On the other hand, although earnings grew by 52% in 2005, customer complaints doubled. During the following year, Dell acknowledged problems with customer service call transfers and wait times, promising on its corporate blog that “we’re spending more than $100 million—and a lot of blood, sweat, and tears of talented people—to fix this.” For the year, spending on customer service reached $150 million.

In addition, competitive conditions in the PC market were a lot different in 2005 than they had been during Dell’s glory days, mainly the decade from 1991 to 2001, when annual sales soared from $546 million to $32 billion. For the third quarter of its 2006 fiscal year, Dell’s growth of 3.6% paled in comparison to Hewlett-Packard’s (H-P) 15%, and the fourth quarter produced even more disappointing numbers. Sales tumbled by 51% from the previous year, and PC shipments had declined by 8.9%, while H-P boasted an increase of 23.9%. In fact, it was a dismal quarter all around: Dell also had to recall 4.1 million laptops because the batteries had the potential to ignite, and the Securities and Exchange Commission (SEC) announced an investigation into the company’s accounting practices. By the end of the year, industry analysts estimated that H-P had overtaken Dell in worldwide market share, 17.4% to 13.9%.

With revenues of $56 billion, substantial enough to earn Dell the No. 25 spot among the Fortune 500, the company was in no immediate danger of going out of business, but there were some serious issues with which the company had to deal. Ironically, it was becoming increasingly clear that Dell’s troubles could be traced back to the innovative, low-cost, no-nonsense business model on which the company had built its business. For one think, although Dell had eliminated the early competitors who had failed to imitate its business model and meet its low prices, by 2006 it was facing a new set of rivals, particularly H-P and the Chinese company Lenovo, both of which had emerged as formidable competitors by making themselves remarkably efficient.

In addition, it was clear by 2006 that the computer industry had outgrown the era of the generic box. The stylish iMac had been on the market for nearly ten years, and H-P’s MediaSmart TV, which functioned as either as a TV or a wireless PC monitor that could stream videos and music, had come out early in the year; meanwhile, according to senior editor at Fortune, Dell remained “the ultimate provider of white-bread (well, gray plastic) PCs.” A veteran industry consultant put it more bluntly: “Dell is down there with food and shelter in the hierarchy of human needs,” he suggested.It seems Dell had fallen behind in two areas that were not adequately addressed by a business model powered principally by operations and financial control: (1) product innovation and design; and (2) customer service and consumer brand preference. “Competitors are selling the use, the solution, but Dell’s still selling products,” remarked one industry marketing expert. In other words, Dell needed to build a business model driven as much by marketing management as by operations and financial management. Michael Dell, who stepped down as CEO in 2004, agreed, saying: “We were managing cost instead of managing service and quality . . . We had this historical structural advantage which manifested itself in lower price and better value for customers, and I think we overemphasized the price element and did not emphasize relationships and customer experience.”

The first thing that Dell did when he realized that the business was in trouble was to reinstate himself as CEO, replacing Kevin B. Rollins in January 2007. The next thing he did in April of that year was to hire a chief marketing officer (CMO), a non-existent position in the company prior to that time. “We’ll be seeing radical change at Dell over the next two years,” promised Mark Jarvis, and ex-CMO at software giant Oracle and, by 2008, Dell had begun turning out an innovative stream of new products, including the Inspiron Mini-9 netbook, the pocket-sized M109S projector, and the luxury-priced Adamo netbook designed to compete with Apple’s MacBook Air. So far, however, Dell’s new product and marketing initiatives have failed to pull it out of a slump that began in mid-2005 and that has worsened with the global economic crisis and recession. The problem? Dell is trying to do two things at once: keep costs down and expand its business. Expansion, which involves introducing new products and increasing sales overseas and through retail outlets, is an expensive proposition, and the two goals are hardly compatible. During its fiscal 2007 fourth quarter (which ended January 31, 2008), income slipped 6.5% to 31 cents per share, exacerbating a slide in share price from $30 per share in November 2007 to $20.87 just three months later. As for controlling costs, the company cut 3,200 jobs over the previous eight months.

By the end of the second quarter of 2008, share price had hit an eight-year low of $18.24, and by December was at a dismal $11.13 per share, its lowest level since 1997. Michael Dell admitted that recent price-cutting measures had been “a bit too aggressive,” but, more importantly, analysts agreed that Dell’s prospects for difficult economic times were dampened by its long-term failure to do what other big tech companies had done, which was to get bigger by means of acquisitions. Dell, which had long boasted of its successful internal (organic) growth, had finally made a few strategic acquisitions, but observers pointed out that most of the prized assets had already been purchased by other companies.Dell was also making heavy investments in design and, by the end of 2008, it had made moves to increase its activities in hardware and services for corporate offices and data centers; however, analysts remained skeptical that all of these measures would soon result in a well-rounded, well-managed company. Michael Dell tried to explain the company’s efforts to retool its business model: “Here was a company,” he said, “that was maniacally focused on an approach to its business which resulted in an enormous amount of success, and when it kind of realized that that wasn’t working as well as it did in the past, decided to make a number of changes . . . It’s okay if everyone doesn’t understand what we are doing.”

For the first quarter of fiscal 2009, revenue dropped in all of Dell’s major businesses, including declines of 34% and 20% in desktop and notebook PCs, respectively. Although its share price had reached a 52-week high of $25.63 in August 2008, it dipped as low as $8 per share. For the quarter, income had plummeted 63% to $290 million (15 cents per share) from $784 million (38 cents per share) a year earlier. Having earned 24 cents per share, Dell beat estimates by a penny, but revenues fell below forecasts, declining 23% from $16 billion to $12.3 billion.

Assignment: You have been hired by Michael Dell to help him devise an effective control strategy. Your deliverable to Mr. Dell is a detailed report in which you will recommend changes to the existing control system, and propose the addition of new controls, if appropriate. Your analysis should begin with a discussion of the advantages Dell gained from the tight controls in its original business model, and the competitive disadvantages it now faces because it is using that control system. The report should also describe your recommendation for a new business model that would incorporate the appropriate controls discussed in Chapter 16 of Management: Leading and Collaborating in a Competitive World.