Dell Computer’s Drive to Eliminate the Middleman
Historically, personal computers were sold either through a direct sales force to businesses (e.g., IBM), through company-owned stores (e.g., Gateway), or through independent retail outlets and distributors to both businesses and consumers (e.g., CompUSA). Retail chains and distributors constituted a large percentage of the customer base of other PC manufacturers such as Compaq and Gateway. Consequently, most PC manufacturers were saddled with the large overhead expense associated with a direct sales force, a chain of company-owned stores, a demanding and complex distribution chain contributing a substantial percentage of revenue, or some combination of all three. Michael Dell, the founder of Dell Computer, saw an opportunity to take cost out of the distribution of PCs by circumventing the distributors and selling directly to the end users. Dell Computer introduced a dramatically new business model for selling personal computers directly to consumers. By starting with this model when the firm was formed, Dell did not have to worry about being in direct competition with its distribution chain. Dell has changed the basis of competition in the PC industry not only by shifting much of its direct order business to the Internet but also by introducing made-to-order personal computers. Businesses and consumers can specify online the features and functions of a PC and pay by credit card. Dell assembles the PC only after the order is processed and the customer’s credit card has been validated. This has the effect of increasing customer choice and convenience as well as dramatically reducing Dell’s costs of carrying inventory. The Dell business model has evolved into one focused relentlessly on improving efficiency. The Dell model includes setting up super-efficient factories, keeping parts in inventory for only a few days before they are used, and selling computers based on common industry standards like Intel chips and Microsoft operating systems. By its nature, the Dell model requires aggressive expansion. As growth in the PC market slowed in the late 1990s, the personal computer became a commodity. Since computers had become so powerful, there was little need for consumers to upgrade to more powerful machines. To offset growth in its primary market, Dell undertook a furious strategy to extend the Dell brand name into related electronics markets. The firm started to sell “low end” servers to companies, networking gear, PDAs, portable digital music players, online music, flat-panel televisions, and printers. In late 2002, the firm began to sell computers through the retail middleman Costco.
Michael Dell believes that every product should be profitable from the outset. His focus on operating profit margins has left little room for product innovation. Dell’s budget for new product R&D has averaged 1.3% of revenues in recent years, about one-fifth of what IBM and Hewlett-Packard spend. Rather than be viewed as a product innovator, Dell is pursuing a “fast follower” strategy in which the firm focuses on taking what is currently highly popular and making it better and cheaper than anyone else. While not a product innovator, Dell has succeeded in process innovation. The company has more than 550 business process patents, for everything from a method of using wireless networks in factories to a configuration of manufacturing stations that is four times as productive as a standard assembly line. Dell’s expansion seems to be focused on its industry lead in process engineering and innovation resulting in super-efficient factories. The current strategy seems to be to move into commodity markets, with standardized technology that is widely available. In such markets, the firm can apply its finely honed skills in discipline, speed, and efficiency. For markets that are becoming more commodity-like but still require some R&D, Dell takes on partners. For example, in the printer market, Dell is applying its brand name to Lexmark printers. In storage products, Dell has paired up with EMC Corp. to sell cobranded storage machines. As these markets become more commodity-like, Dell will take over manufacturing of these products. This is what happened at the end of 2003 when it took over production of low-end storage production from EMC. In doing so, Dell was able to cut production costs by 25%. The success of Michael Dell’s business model is evident. Its share of the global PC market in 2003 topped 16%; the company accounts for more than one-third of the hand-held device market. At the end of 2003, Dell’s price-to earnings ratio exceeded IBM, Microsoft, Wal-Mart, and General Electric. Dell has had some setbacks, however. In 2001, the firm scrapped a plan to enter the mobile-phone market; in 2002 Dell wrote off its only major acquisition, a storage-technology company purchased in 1999 for $340 million. Dell also withdrew from the high-end storage business, because it decided its technology was not ready for the market.
Case Study Discussion Questions
1. Who are Dell’s primary customers? Current and potential competitors? Suppliers?
2. In your opinion, what market need(s) was Dell able to satisfy better than its competition?
3. How would you characterize Dell’s business strategy (i.e., cost leadership, differentiation, niche, or some combination)? Give examples to illustrate your conclusions.
4. How would you describe Dell’s implementation strategy (i.e., solo venture, shared growth/shared control, merger/acquisition, or some combination)? Give examples to illustrate your conclusions. Why do you think Michael Dell selected this strategy? Explain your answer.