Dell's Biggest Problem: Watery U.S. Sales

The stock is up 19% since mid-April, but the computer maker's large exposure to the U.S. market could stop the momentum.
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The good news for

Dell

(DELL) - Get Report

is that worldwide sales of PCs didn't grind to a halt during the first quarter.

The bad news is that Dell's largest market -- the U.S. -- looks weaker than it has been in years.

A slew of tech firms, including

Hewlett-Packard

(HPQ) - Get Report

and

Sun Microsystems

(JAVA)

, have already revealed bruises suffered from slackening U.S. demand.

When Dell delivers its fiscal first-quarter earnings results Thursday, investors will get to see what impact the troubled U.S. economy has had on Dell and its quest to return to growth.

The average analyst expectation calls for Dell's sales to increase 7.2% year-over-year to $15.6 billion, with EPS of 33 cents, according to Thomson Reuters.

More so than many of its peers, Dell's fortunes are tied to the U.S. -- the company drew 51% of its revenue from this country in the fourth quarter.

With U.S. corporations cutting back on tech spending amid a souring economy, Dell's server sales could take a hit. Earlier this month, H-P reported

surprisingly weak sales of so-called industry standard servers

featuring chips made by

Intel

(INTC) - Get Report

and

Advanced Micro Devices

(AMD) - Get Report

.

When it comes to PCs, though, Dell's recent restructuring efforts may be helping it weather some of the turbulence on its home turf. While PC shipments in the U.S. increased a scant 3.5% in the first quarter of 2008, Dell's unit shipments jumped 15.6%, according to industry research firm IDC. H-P, the world's No. 1 PC maker, saw its U.S. PC shipments inch up only 0.3%.

One factor behind Dell's jump in shipments is its push into retail stores. The company has moved away from its previous approach of selling PCs strictly though Internet and phone orders, and now sells its computers at

BestBuy

(BBY) - Get Report

,

WalMart

(WMT) - Get Report

and other retail outlets.

And while Dell's desktop-heavy catalog of products constrained its sales growth in recent years, the company is now aggressively broadening its selection of hotter-selling notebook PCs -- something which could help Dell both in the U.S. and in the overseas markets that it wants to grow in.

These new efforts, spearheaded by founder Michael Dell, may explain the Street's bullishness for Dell's stock despite the company's significant exposure to the troubled U.S. economy. Dell's stock is up roughly 19% since mid-April, finishing Wednesday's regular session at $21.69.

That said, Dell still has a lot to learn about prospering in a retail world. Dell executives acknowledged last month that the company is still about a year away from producing retail PCs as cost-effectively as the competition.

And the company's various market expansion efforts are driving up costs. In the fourth quarter, Dell's

operating expenses surged 34% year-over-year

, while revenue increased only 10%.

Jyske Bank analyst Robert Jakobsen estimates Dell's operating margin in the current quarter to be 5.2%, which he says would represent a sequential decline of 20 basis points if special charges are excluded from the fourth-quarter margin figure.

More important than the current quarter is what happens to profit margins in the second half of the year, when Dell has signaled that its operating expenses will fall back to historical levels.

On Thursday, investors will be looking for updates on Dell's cost-reduction efforts, particularly with respect to previously announced headcount reductions. And with a

new finance chief slated to take over next month

, Dell might even be closer to once again providing detailed financial guidance so that investors can really gauge the progress of its transformation.