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Money Machine

Michael Dell is worth $11 billion, and his company has one of the hottest tech stocks around. But unlike a lot of its high-flying brethren, Dell Computer is the real thing.

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Michael Dell is theworld's least glamorous billionaire. That is, he's the world's least glamorous multibillionaire. At the age of 33, the founder and CEO of Dell Computer is worth something like $11 billion (give or take a couple hundred million, depending on what the company's stock did today). But the mention of his name still draws blank stares from people who wouldn't have any trouble picking Bill Gates out of a lineup.

In fact, although Dell's stock is up 30,000 percent this decade and more than 3,000 percent in the past three years (it's been trading in the 110 range, up from a split-adjusted 3 1/2 in July 1995), the company itself remains relatively unknown outside the business world. That's partly due to the fact that 90 percent of Dell's business comes from corporations, schools, and nonprofit institutions, so that people are much more likely to have an IBM or Gateway PC in their homes than a Dell desktop machine. But it's also due to the fact that Michael Dell is, well, dull, or, as Fortune recently put it, "beige" and "vanilla." Lacking the panache -- and self-promoting genius -- of a Steve Jobs, Dell also doesn't have the otherworldly nerdiness of a Bill Gates (though he did get into the PC business in 1983, in a variation on the classic garage start-up, by selling computers out of his University of Texas dorm room).

All Dell does have, in fact, is stellar managerial skills. But those happen to be the skills that really matter. And at a moment when the relationship between companies' stock prices and business performance has gotten completely out of whack, looking at what Dell has done is an excellent reminder that sometimes the market gets things right. While he'll never be the subject of a Vanity Fair profile or grace the cover of Time, Dell has reshaped the entire PC industry, perfected the manufacturing process, and made his corporation into one of the best-run companies in America.

Of course, predictions that Dell will soon hit a wall are common, and so, too, is the assumption that its competitors -- most notably Compaq and Hewlett-Packard -- will soon duplicate the remarkable efficiency and productivity of its manufacturing operations. After all, how hard can it be to figure out how to build a box? But these assumptions rest on a basic misunderstanding of why Dell has been so successful and on a serious underestimation of how difficult making things really is. The truth is that Dell, for all its manufacturing innovations, isn't exactly the new paradigm for the
twenty-first-century corporation -- its particular set of circumstances and advantages (more on that later) could limit its usefulness as a model. But Dell is worth looking at (and investing in) precisely because of how much of the old it has held on to.

At its heart, Dell's business depends on a simple idea: Don't build anything you can't sell. That sounds obvious, but if it were easy to pull off, there wouldn't be sale racks at the Gap or rebates from car dealers. Dell pulls it off by selling directly to its customers (including $6 million a day in business over the Internet) and building everything to order, making "Would you like a 300-MHz or 400-MHz Pentium chip with that?" as familiar a phrase in some circles as "Soup or salad with your entrée?" Like the Japanese pioneers of just-in-time manufacturing -- think Toyota -- Dell has plants that are surrounded by suppliers who have built up symbiotic relationships with the company. So Dell keeps next to no inventory of parts on hand. Its strategy is the perfect realization of what Henry Ford was after when he wrote in 1921: "Having a stock of raw material . . . in excess of requirements is waste."

At the same time, Dell has also perfected something much more mundane: the simple feat of holding on to its money. Every business recognizes, of course, that it's better to collect money you're owed as quickly as you can and to pay money that you owe as slowly as you can. But with the arrival of chief financial officer Tom Meredith three years ago, Dell began to turn cash management into an art form. Now it's one of the few companies in America with what's called a "negative cash-conversion cycle"; on average, it pays its suppliers eight days after it collects from its customers. Given that Dell sells more than $1 billion worth of computers every month, it has a lot of float to play with -- effectively interest-free loans from both its customers and its suppliers.

And that in turn means that to understand Dell, you can't look just at profit margins or revenue growth. Because what Dell's doing is more interesting than just making money. What it's doing is pulling very large rabbits out of very small hats.

The rabbits, in this case, are profits, and the hats are all the money invested in the corporation. In the simplest terms, what Dell has mastered is the art of doing more with less, which means -- in accounting-speak -- that it's consistently generating an incredibly high return on capital. Compared not just with its competitors but with nearly every other company in America, Dell is turning a relatively tiny collection of assets -- three manufacturing plants, a corporate headquarters, and lots of rooms filled with people answering phones -- into a torrent of profits, and it's doing this quarter after quarter. Think of it this way: If you're investing, you'd prefer to make $500 in profit by putting up $10 rather than make $500 in profit by putting up $1,000. The same idea applies to companies.

Consider IBM. If you look at the raw numbers, it's one of the most profitable companies on the planet. But what it's really doing is pulling large rabbits out of incredibly large hats, chewing up vast amounts of capital in the process. Depending on how you run the numbers, in fact, Dell's return on capital is as much as ten times IBM's, in no small part because its inventory is about 4 percent of Big Blue's.

"What Dell has done is to figure out how to run its business with almost no outside capital," says Randy Befumo, an analyst at Legg Mason. "There's just very little net money that's invested in this business, and it's generating just a ton of cash. There are almost no other business models than can spit out cash like this without requiring massive investments. What's really weird is that if you look closely enough, you can see that there's a point at which Dell could get so efficient that it would have an infinite return on capital." An infinite return on capital: You might call that the Holy Grail of the business world.

There is a catch, though: what Dell has done doesn't translate well to other industries. Dell has the advantage, after all, of effectively having its R&D costs paid for by Microsoft and Intel (like every other PC manufacturer), which has allowed it to devote its resources to assembly-line perfection, inventory control, and a rabidly aggressive sales staff. At the same time, the peculiar economics of the computer industry, in which prices for chips and disk drives stay in perpetual free fall, means that Dell can cut prices on its PCs and still make a hefty profit. Similarly, by keeping inventories so lean, Dell has shifted the risk of overproduction to its suppliers. Essentially, Dell figured out all the peculiar opportunities the PC industry offers, then took advantage of each and every one of them.

Advocates of the so-called New Economy are fond of pointing to Dell as evidence of the way information technology is revolutionizing the business world. And while Dell has done a brilliant job of incorporating new technology into its operations, the company's success says more about the continued relevance of business strategies like just-in-time manufacturing than it does about techno-utopian fantasies. What Dell has done remarkably well, in fact, is treat technology as a tool rather than as a fetish, while emphasizing the relatively mundane matters of inventory management, bill collection, and production-line efficiency. In this time of Internet-stock mania and Tom Peters-style pronouncements of perpetual business upheaval, Dell's preeminence is a healthy reminder that making things cheaply and well is still the best definition available of what makes a company great.

In brief: Even now, it's not clear exactly what in Fed chair Alan Greenspan's Humphrey-Hawkins testimony sent the market into last week's swoon, since none of what he said came as a surprise. At this point, his role has essentially devolved into that of the serious father figure to whom everyone pretends to pay heed -- momentarily. The market's gotten so out of line with corporate America's underlying fundamentals that Greenspan's subtle dissection of what's happening to the global economy sounded like it was coming from another decade. Or maybe just from the real world.


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