Can Dell Recover Directly?

Regardless of the outcome of the Dell shareholders' class-action lawsuit against their company, the task before the once and future CEO of Dell Computer is gargantuan: to restore customer faith in the nation's #1 brand, and the world's #2 brand, in computers.

Carmi Levy is senior research analyst for Info-Tech Research Group, and helped us assess the shareholder suit Friday afternoon. Levy was able to make a preliminary assessment of the complaint, and assessed it this way:

"The plaintiffs allege that Dell withheld all of this information because they were fearful of such a plunge [in stock value]. So in order to maintain share values at an acceptably high level, they hid some of the bad news and shunted it under the carpet. According to the lawsuit, there were personal opportunities for gains for their options to be valuable if the stock price was above a certain amount, and they allege rather pointedly that a number of the senior executives at Dell cashed in significantly by selling off in virtually all cases, well over 90% of their personal holdings."

While the press (BetaNews included) noted first and foremost Intel's involvement in the suit, with the allegation that it kicked back rebates to Dell for exclusively purchasing Intel CPUs, and that Intel knew Dell was using those revenues to pad its losses in sales revenues - a charge Intel flatly denied to BetaNews Friday - the charge which probably struck at the heart of Dell most deeply was not a direct one, but an implied one: that Michael Dell's fabulous "Dell Direct" business model had crumbled, and rather than fix it, he and others allegedly covered it up.

"There were voices, years before this came to a head, that were saying that the Dell Direct business model at some point would run out of gas, and was already showing signs of running out of gas," Levy told BetaNews. "Those voices were somewhat muted in the early part of the decade, but certainly as we got to 2003, 2004, they started to gain prominence. Certainly by 2005, the voices were a fairly strong chorus."

In the Dell Direct model, the company only purchases the components it needs to build computers per customer order just days ahead of manufacturing those orders, rather than months. Consumers pay Dell immediately; meanwhile, the company has a whole month to pay suppliers for the parts it orders. So the company doesn't need overwhelming capital or parts or inventory on hand to fill consumer needs.

"It's a double-win," Levy proclaimed. "You're protected from eroding, commoditized equipment prices, and you also get to hold onto your customers' money for a month before you've got to do anything with it." It's the model that made PCs Limited from a garage operation to a multi-billion-dollar enterprise, and that garnered praise for Michael Dell as the consummate American businessman. Did it really fail?

The Dell Direct model has been compared with the Wal-Mart business model, where a company uses its own existing purchasing power as leverage to gain more purchasing power. This way, Wal-Mart can dictate the terms of its quantity purchases, and can drive many of its suppliers into becoming exclusive Wal-Mart providers. But the comparison with Dell starts to fall apart when talking about the complexities of the products Dell is producing.

"We aren't selling pink, plastic lawn flamingos," remarked Levy. "These are complex pieces of equipment that aren't just commoditized boxes, despite what everyone would like to believe. They're complex pieces of high technology, so quality control across the board throughout the supply chain becomes absolutely critical. But if you cannot support those - if you try to take, for example, money out of your support infrastructure by reducing levels of customer service, on your toll-free numbers and on your Web site - then that will have a differentially greater effect with complex devices that typically require this kind of support as opposed to less complex devices that a Wal-Mart would sell.

"Who needs post-sales support for a shirt?" he added. "Almost everyone needs post-sales support for a computer."

Support is where Dell notoriously cut costs, especially by outsourcing many of those services overseas. In addition, the company may have also cut quality-of-service controls, including testing of received parts prior to manufacture. "Quality of service fell significantly, customer complaints rose significantly, the Dell brand was tarnished in the process, and Dell has been struggling with that ever since," said Info-Tech's Levy. "Certainly as Michael Dell returned to the fold this week, he committed to putting more money into customer service, and so revamping that process is nothing different than we've been hearing for the last year."

Next: Is this a job for Michael Dell?