Two Strikes for Dell

The focus this afternoon will be on the magnitude of the miss on sales and earnings.
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Dell (DELL) - Get Report is entering its earnings call with two strikes against it.

The Round Rock, Texas, PC maker has already warned the Street that it has missed its financial targets for the quarter. And Monday the company announced that

defective batteries in some of its notebooks have prompted it to undertake the largest recall of an electronics product in U.S. history.

With this kind of baggage weighing it down, can investors expect any good to come out of Dell's quarterly report after Thursday's market close?

Pat Adams, the chief investment officer of Choice Funds, says he hasn't given up on the world's No.1 PC maker.

"To me what you have is a high-quality tech company that's very cheap and that has a cloud over it," says Adams, who doesn't currently have a position in Dell.

Although the depressed state of the broader PC market means Dell's business is unlikely to face a significant pickup in the near term, says Adams, its stock is cheap enough to offer compelling trading opportunities.

"The potential of some sort of positive reaction in the stock is higher than the negative reaction to it," says Adams, who will be a buyer if Dell shares take a hit after the earnings release.

Dell's stock is down roughly 38% in the past 12 months, trading at $22.73 Thursday.

But with Dell shares carrying a 17 times multiple on calendar 2007 expected earnings, that's still not cheap enough for Atlantic Trust Stein Roe's Chuck Jones.

"If it was at a 12 or 13 multiple, I would say the downside risk is a lot more limited," says Jones, whose firm has a small position in Dell, but does not own shares as part of its core holdings.

Not only is Dell reeling from a string of problems, says Jones, but the company has fewer good options available to it.

"They

could talk about cost cutting, but I'm not sure how much more costs they have to cut. And they're ramping up expenses for things like customer support," says Jones.

There's little suspense accompanying Dell's actual results for its second quarter, given that the company

preannounced its results in July. The average analyst forecast now calls for Dell to report $14 billion in sales with EPS of 22 cents, in line with the company's revised projections that call for EPS between 21 cents and 23 cents.

Of course, those figures are below Dell's initial guidance, which called for the second quarter to be similar to the first, during which it had $14.2 billion in revenue and a profit of 33 cents a share.

A year ago, Dell earned 38 cents a share on $13.48 billion in sales.

The company cited a slowing commercial market and aggressive price cuts of its products for the shortfall.

More details on the performance of Dell's various businesses in the challenging commercial climate, as well as on the disparity between the magnitude of the miss on the top and bottom lines, will be of interest to investors.

To view Street Insight's video preview of Dell, please click here

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Although Dell fell short of its second-quarter sales target by only 1.4%, EPS appears to be 33% lower than initially expected.

According to A.G. Edwards analyst David Wong, Dell's operating margins appear to have dipped to slightly above 4% in the second quarter, compared with 6.7% in the first quarter. Any guidance about operating margins for the current quarter will be important, Wong said in a recent note to investors.

Wong, whose firm makes a market in Dell shares and the firm or its officers have a long position in Dell, assumes that margins will be stuck in the 4% to 5% range for "some quarters," particularly as Dell's efforts to regain market share in the consumer sector keep margins under pressure.

Of course, Dell recently stopped giving specific guidance, so any financial outlook for the coming months will likely be painted with broad brush strokes.

Meanwhile, speculation persists that Dell will expand its use of

Advanced Micro Devices

(AMD) - Get Report

microprocessors in its PCs, possibly announcing notebooks and desktops that feature AMD chips.

Dell used its first-quarter earnings release in May to announce that it would use AMD processors in certain of its servers, ending a longstanding practice of offering strictly

Intel

(INTC) - Get Report

-based machines.

With Dell's analyst day scheduled to take place in mid-September in New York, however, many analysts believe that any announcement about further use of AMD chips will be held off until then.