Dell Branches Out

Aug 25, 2002 (08:08 PM EDT)

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Dell Computer has leveraged its wildly successful and efficient build-to-order model to become the leader in the U.S. market for Intel-based PCs and servers. In one hour, the company can manufacture as many business PCs -just over 2,000-in its Morton L. Topfer Manufacturing Center in Round Rock, Texas, as it would in an entire day 10 years ago. Now, Dell is aggressively moving to repeat that success in three new areas: modular servers, storage, and networking.

In these cost-conscious times, businesses are eager to hear Dell's value proposition. The company's first-generation "blade" servers hold the promise of reducing infrastructure costs, says Charles Oliver, director of global IT for Eastman Chemical Co., the $5 billion-a-year maker of chemicals, fibers, and plastics. Eastman standardized on Dell notebooks and desktops five years ago and recently decided to move software that controls manufacturing operations at about 40 plants to Windows-based Dell servers to save money. "We're very happy that Dell has a blade server strategy," he says.

Dell will introduce its PowerEdge 1655MC blade product in October. Customers can order up to six of these "server on a board" systems packaged in a slim chassis. Each board features up to two 1.26-GHz Intel Pentium III processors running Linux, Windows, or Novell NetWare. A line of more fully featured PowerEdge blade servers, which can be customized with a mix of CPU, storage, and memory-server boards to handle intensive computing tasks, is due in the first half of next year. The customizable systems, also known as "bricks," will be more flexible and expandable than current designs. The systems will include software to monitor blade status and deploy applications remotely to hundreds of servers from any location.

Michael Dell

With 3% of the total IT market, CEO Dell sees a lot of room for the company to grow.
Dell isn't the only vendor in the modular-server market-Hewlett-Packard, IBM, and Sun Microsystems are also players. The direct vendor's strategy with both its blades and bricks is the same: to drive down costs without sacrificing features. Dell's low-end blade server is expected to sell for about $3,500. A comparable version of HP's BL20p server blade, which ships this week, is about $5,500, including an enclosure.

Dell succeeds in lowering prices because it continues to bring its own costs down, chairman and CEO Michael Dell says. The company plans to cut $1 billion out of costs this year, partly by increasing operational and supply-chain management efficiencies. "Our strategy is, how do we make ourselves more valuable to the customer?" Dell says. The focus is on new enterprise services and products that can be added to the company's portfolio.

Storage falls into the products category in a big way. Dell says the market for network-attached and midrange storage for Windows and Unix systems is becoming the kind of space the company thrives in: high-volume, low-cost products that support industry standards. The vendor generates most of its revenue, 52%, through PC sales, but its storage business is accelerating. Storage grew 70% in the second quarter, ended Aug. 2, and Dell expects its storage revenue to reach $1 billion for fiscal 2003. "Our storage business has had massive growth," Dell says. "And that's a function of customers recognizing value and also our distribution system and efficiency."

Dell's expansion has piqued the interest of Sears, Roebuck and Co. "Dell's saying, 'I've got this model working on PCs and servers; why can't I make it work in other areas?'" says Don Zimmerman, Sears' acting CIO. Still, Zimmerman is cautious. Earlier this month, Sears said it would buy just seven Dell PowerVault 220S direct-attached storage systems, along with 1,800 PowerEdge 2500 servers and 3,700 OptiPlex GX50 desktops. "You have to be careful if there are spaces they haven't been in before," Zimmerman says. "In some of these newer areas, Dell will have to prove itself. So we make small purchases and see how they operate."

Russ Holt

Dell has an agreement with storage leader EMC to manufacture an entry-level Fibre Channel storage device that will ship next year, VP Holt says.
Dell recently has made inroads in the midrange storage area network market through an alliance with storage leader EMC Corp. to resell its Clariion SAN products. Dell also has an agreement with EMC to manufacture and ship early next year an entry-level Fibre Channel storage device comparable to EMC's Clariion FC5300 System, says Russ Holt, VP and general manager of Dell's enterprise systems group. That's potentially good news for storage customers. Dell could push the market to be more cost sensitive, says Enterprise Storage Group analyst Nancy Marrone.

Specifications such as the Common Information Model and Bluefin mean standardization is just starting to take hold in the fragmented storage market, where problems with interoperability have long been a sore point for customers. That's an opportunity for Dell. "We'll focus our development in the area of the marketplace where standardization has occurred," Holt says.

Dell engineers are getting as much of an education in the intricacies of storage software as EMC may be gaining in efficient manufacturing. Dell has been helping to define the specs for the new Clariion product, while EMC has taken the lead in its overall design. The partnership between Dell and EMC is a two-way street, says Linda Hargrove, Dell's VP of worldwide enterprise systems group marketing. "There are cost efficiencies that Dell can bring to bear from a manufacturing and supply-sourcing perspective," she says. "Likewise, EMC has brought us storage R&D expertise."

After all, says Joel Schwartz, EMC senior VP and general manager of the Clariion line, midrange storage may be a high-volume market, but it isn't a commodity yet. "Our system will support industry standards," Schwartz says, "but it's still got a lot of high-value intellectual property inside." For example, integrated security software lets administrators manage hundreds of Clariion systems from a single console.

Menasha Corp., a holding company with subsidiaries that sold $1 billion worth of plastics and packaging materials last year, has been talking with Dell about storage during the past few months. "If Dell brings to the storage arena the same reliability and cost-of-ownership model that's favorable, hey, we're all for it," CIO Edward Wojciechowski says.

Dell acknowledges that high-end storage for companies that must connect Windows, Unix, and mainframe systems is better left to EMC, IBM, and Hitachi Data Systems, which sell complex systems for millions of dollars a pop. "We struggle because the vendors can't bring interoperability," says Chris Collins, manager of enterprise architecture at Ahold Inc., an international retail holding company with $56 billion in sales last year. Ahold maintains a storage infrastructure with high-end systems from EMC and IBM. To simplify things, Ahold wants to move to an all-IBM storage platform. There must be greater support by all companies for new interoperability standards, Collins says; no single vendor, not even Dell, can bring simplicity to situations where there's such a mix of systems and data, she notes.

Dell hasn't significantly altered the networking market yet. But it could by leveraging its high sales volume and low production costs to drive down networking infrastructure costs faster than might occur otherwise, says Mark Fabbi, VP and research director at Gartner. "Dell's real impact is in changing the economics and expectations of the market," Fabbi says. And because Dell's switches have more features than those from other low-cost vendors, customers get the price benefits of commoditization without much sacrifice.

"This is the beginning of us applying our model to the communications space," says Kim Crawford, VP and general manager of Dell networking. Dell's products are primarily low-end devices, though the company recently introduced two switches with enterprise-class features. Gartner's Fabbi predicts Dell initially will compete most aggressively with low-end switch vendors such as D-Link Systems, Linksys Group, and Netgear, which have products that tend to be inexpensive, with bare-bones functionality.

Printing company Communications Specialist Inc. is pleased with the eight 24-port managed Ethernet PowerConnect 3024 switches it bought from Dell a year ago, IT manager Gilbert Maldonado says. At about 40% less than comparable Cisco switches, "they're a little plainer than Cisco's in terms of not having the same bells and whistles, but Dell's product quality is just as good as Cisco's," Maldonado says.

The trade-off of a few features for a significantly lower price was worth it for Communications Specialist, and Dell seemed like a safer choice than other low-cost switch vendors. "There are other switch companies out there, but I just didn't feel comfortable putting my whole network on their equipment," Maldonado says.

If Dell continues upmarket, it will ultimately go head-to-head with networking powerhouse Cisco and its contemporaries. But Cisco says it isn't worried: It sees Dell's entry as favorable for the market because it will encourage more small companies to buy basic LAN switches, which they may later replace with more sophisticated switches from higher-end vendors as needs grow. "The opportunity is for the market to grow further," says Peter Alexander, VP of marketing for Cisco's commercial networking unit.

Eastman's Oliver isn't as bullish on Dell's prospects as a networking vendor as he is about its potential in other areas. "Dell is starting to get out of its areas of competency and will have a hard time competing in networking with Cisco," he says.

But Dell doesn't want to be underestimated. "We're highly committed to the networking business," Crawford says. Dell can earn significantly higher profit margins from networking products than it gets in its PC and server business, while still pricing its products well below those of established networking vendors, analyst Fabbi says. Typical gross margins for PCs are around 25%, but networking vendors have gross margins of 40% to 50% and even higher for more sophisticated equipment.

Communications Specialist's Maldonado says he hopes Dell's switching business is successful because the networking industry needs more competition. Statements like that indicate to Michael Dell that there's plenty of opportunity for his company to enter new areas. "We have 3% of the total IT market, pretty small," he says. "I haven't found any customers who don't like competition."

Photo of Michael Dell by Matthew Mahon
Photo of Russ Holt by Matthew Mahon