Professional Documents
Culture Documents
We have analyzed the performance of Dell during the period from 1992 to 1996, particularly between the
year 1995 and 1996 when Dell achieved an extraordinary sales increase of 52%. We have focused our
analysis on Dells working capital management as well as build-to-order inventory model through given
1. How was Dells build to order model and working capital implications a competitive advantage?
Based on our findings, Dells working capital management has provided significant savings in investment
capital and reduced the risks of discount the obsolete inventory. The inventory model also helped to
mitigate the risk of cannibalization among product lines. Dells focus on managing working capital helped
the firm to fund the growth internally which resulted in 52% increase in revenue from 1995 to 1996. The
detailed analysis below will explain our rationale as well as key assumptions followed by detailed analysis
and calculations.
Question 1: How was Dells build to order inventory model and working capital implications a
competitive advantage?
Dell designed, manufactured, sold and serviced high-performance personal computers (PCs) compatible
with the industry standard. The companys core strategy was selling directly to customers rather selling
through networks of distributors and retailers. In addition, Dell combined this low-cost production and
distribution system with the build to order model a production cycle that began after the company
received a customers order. This build to order model has been a competitive advantage of Dell for a
number of reasons:
As mentioned in the case, Dell built computer system after the company received the customers order
while other competitors built and maintained an inventory of finished products. As a result, Dells WIP
and finished goods inventory balance was only around 10% to 20% of the total inventory balance while
industry average of the top competitors ranged around 50% to 70% of their inventory not included the
To illustrate Dells advantage in terms of investing in working capital, we should look at table An of the
case, the Days Supply of Inventory (DSI) of Dell and other major competitors:
Apple Computer 52 85 54
Compaq Computer 72 60 73
IBM 64 57 48
The yearly COGS of Dell in 1995 in Exhibit 4 was $2,737m and the DSI from Table A was 32 days
Substitute to the DSI formula, we can have the Net ending inventory of Dell in 1995:
If we assume that Dell has the same DSI as Compaq Computer 73 days, we can substitute the assumed
DSI into the DSI formula to find the assumed Net Ending Inventory of Dell
Thus, the capital working policy and build to order model has saved Dell: $555m - $243m = $312m of
working capital in 1995. This $312m of working capital represented 59% of cash and short-term
Even if we assume that Dell has the same DSI with IBM the second-best performer in the DSI table, we
A $53m in working capital would represent 10% of cash and short-term investments and 35% of net
As the cost of individual components comprised as much as 80% of the cost of a PC and computing
technologies changes very fast resulting in the price reduction of the component (fell by an average of
30% a year), Dell could maintain a competitive advantage because the firm can switch to new technology
in a very short amount of time while the other competitors had to market both the new inventory and try
We will estimate the opportunity cost saving for Dell using the result calculated from part 1 of this paper.
In part 1, we have assumed that with the same COGS, Compaq Computer had to maintain an inventory of
$555m, a $312m higher than Dell. When the new technology arrived, all computer manufacturer had to
sell their existing inventory with 30% discount to clear up the old inventory balance. As a result, Compaq
Based on the above calculation, the effect of obsolescence cost saving contributed about $93.6m in
3. Cannibalization prevention
One additional minor advantage for Dell in using the build to order model and low inventory is to minimize
product lines cannibalization. Dells low inventory resulted in lower obsoleted stocks compared to other
companies such as Compaq. While Compaq had to provide discounts to their old product line, they had
to market new product line at the same time. The discount will attract the customers to buy the old
products line which resulted in the sales cannibalization of the new product line. In addition, the cycle will
lead to the high inventory level of the new product line and Compaq had to discount them again next
year. With Dells inventory management, they could minimize the risks of cannibalization and enhance
Dells build to order model has proved to be a competitive strategy for small-scale computer manufacturer
with 1% of the US PC market share. However, Dells attempt of expanding has shown weakness in their
Dells aggressive inventory model caused the inventory shortage and order backlogs when they expanded
their distribution from direct only to CompUSA and later adding other mass-market retailers. When they
stepped into the territory of other players who were very experienced in building huge inventory, Dell
exposed their weaknesses in inventory planning and forecasting and as a result, the firm reported $73m
loss in August 1993, in which $71m related to the sell-off excess inventory and the cost of scrapping a
disappointing a product line. In the end, the firm exited the low-margin indirect retail channel and come
In the end, their build to order and inventory management may make Dell vulnerable to sudden high
demand and there was a risk of revenue lost, the rapid technological changes in the computer industry
make Dells business strategy outweighs the disadvantages as the cost of discounted inventory was huge
Based on the assumption that the short-term investments were not relevant to the operation which
means there was no correlation between the increase of sale and increase of short-term investment; the
increase of operating asset of Dell in 1996 should be 32% of Dells total sales in 1996 which was $1,695m
The internal source of funds could come from two parts. The first one was the operating profit generated
from the year 1995, and the other source was the additional capital generated from increasing in asset
In this analysis, we have made a projection for 2016 balance sheet position based on the proportional
increase of sales assumption. After that, we have compared the 2016 projection and 2016 actual to find
If the profit margin was kept unchanged at 4.3% ($149m/$3,475m) in 1996, Dells would have generated
$228m ($5,296m*4.3%) of net income and the remained funding requirement should have been $357m
($585m-$228m). In reality, Dell has increased its profitability to 5.13% and made a $272m net profit which
The $313m remained was funded internally by increase in current liability from 2015 to 2016: $187m
($939m - $752m) and the increase in operating asset efficiency by 3% (32%-29%) or $159m (3% x $5,296m)
Thus, total internal fund would be $618m ($272m + $187m + $159m) > required funding of $585m
From the table above, we could find that assuming the profitability and the short-term investment
unchanged and other assets and liabilities grew proportionally for the 1996 projection, Dell could have
generated a positive $80m fund to pay for its long-term debt. However, Dell kept the long-term liability
unchanged and used the fund to increase short-term investment by $107m and decreased the proportion
On the assets side of the balance sheet, Dell managed to reduce cash, accounts receivable, inventory and
other current assets relative to the projections. The DSO improved by 5 days over the year 1995 as the
account receivable balance as a percent of sales dropped from 15.2% to 13.7%. Also, the inventory level
decreased slightly as DSI improved by 1 day to 31 days in 1996. The asset turnover ratio increased from
2.18 to 2.46 which means the efficiency of the company had increased in 1996.
On the liability side, Dell decreased the DPO by 11 days which made the percentage of current liabilities
of sales decreased from 21.6% to 17.7%. Although Dell decreased the proportion of its funding resource
from the increase of current liability by $207m compared to the projection, it still could make enough
funding for its 52% growth in sales and $107 growth of short-term of investment by increasing its assets