Dell and IBM: "Agreement" as Advertisement?

Dell and IBM: "Agreement" as Advertisement?

Dell and IBM: "Agreement" as Advertisement?

Moneybox
Commentary about business and finance.
March 8 1999 6:56 PM

Dell and IBM: "Agreement" as Advertisement?

When is a contract not a contract? When it's an "agreement," like the one announced last week by computer giants Dell and IBM, who said that over the next seven years Dell plans to buy $16 billion in components from Big Blue.

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The quirk in what was called a "mega-manufacturing pact" is that the deal comes with no guarantees. That's not surprising when you consider that IBM's component business did just $6.6 billion in revenues this year, and that Dell's total revenues for 1998 were $18.2 billion. In other words, if everything goes as planned for Dell over the next few years--i.e., if it grows at its expected 30 percent annual clip--and if IBM's production capacity in the component business expands as planned, then by the year 2004 Dell should be buying a few billion dollars worth of disk drives, network adapter cards, and computer chips from IBM. But if things don't go as planned, then it won't.

Not surprisingly, the deal is back-loaded, which is why even those analysts who praised the arrangement noted that it won't have any material impact on IBM's revenues for at least the first two years. Along the same lines, some of Dell's key suppliers--like disk-drive makers Seagate and Maxtor--said that the deal wouldn't have a real impact on their bottom lines. Now, these suppliers may be trying to put the best face on this new turn of events--okay, they are trying to put the best face on it--but according to the numbers, their blitheness seems warranted, at least for the next couple of years.

Even if the deal doesn't tell us anything concrete about the relationship between IBM and Dell over the next seven years, it does signal some interesting changes in the internal workings of both companies. IBM, for instance, is devoting more attention and more resources to its component-manufacturing business, which started only in 1993 but has been growing at a 40 percent annual clip since then. And when you consider that IBM's PC sales actually fell 1.5 percent in the most recent quarter, the deal (particularly given the loudness with which Big Blue has trumpeted it) is a not-so-subtle wakeup call to the PC side of the company. After all, when the guys down the hall are bragging about selling $16 billion worth of goods--at a discount--to one of your major competitors, it probably makes you wonder what your future with the company looks like.

For Dell, meanwhile, the arrangement is a sign of its new focus on higher-end storage system and server markets. Dell is, and will remain, primarily a PC maker (albeit one that does most of its business with corporate customers), but in the next few years its product mix is going to change significantly, and the pact with IBM gives it access to the kind of R&D that it will need to make that new product mix work.

In the end, then, what's most interesting about this deal is not so much the deal itself as the publicity that attended it. In choosing to market the arrangement the way they did, Dell and IBM testified both to the continued health of their businesses--which had come under fire in recent weeks--and to the new directions in which those businesses might go. "Agreement" as advertisement: Perhaps we've witnessed the creation of a new sales tool.