1 Short, 1 Buy From a Declining Industry

Mohsin is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

The recently released Gartner data shows that the PC industry continues to decline. Windows 8 has totally failed to revive the popularity of PC/notebooks, and the market is now looking towards Intel’s energy efficient Haswell chips to revive interest in PCs.

Lenovo is the only PC OEM which continues to prosper even in these miserable conditions. The company is leveraging its Chinese manufacturing and is offering low cost reliable products.

Dell (NASDAQ: DELL) has been the most severely affected due to  the PC decline because its revenues are highly dependent on PC sales. There seems to be no end to the struggle between Carl Icahn and Michael Dell over control of the troubled OEM. Shareholders are scheduled to vote on the ‘founder’s bid’ to take the company private. If the vote fails, it is highly likely that Dell’s valuations will slide. This limited upside and huge downside make Dell a good ‘short’ target.

Losing Popularity

The rising popularity of smartphones and tablets has pushed PC to the brink. The entire PC industry was expecting Microsoft’s (NASDAQ: MSFT) Windows 8 to change their fortunes. However, this master comeback plan has backfired. The company launched its first touch based operating system last year to high market expectations. It initially predicted sales of around 400 million but has recently revealed that it has managed only 100 million.

The Windows 8 was not a miscalculation and the reason behind its failure is external. The industry didn’t have the hardware to support a touch based user interface. The enterprises were still not ready to switch to the unfamiliar touch UI territory. Microsoft expected the Surface tablets to introduce consumers to Windows 8 and showcase the elegant OS. The devices were highly capable and beautiful, to say the least, but had terrible battery timings.

Failure of Windows 8 has badly bruised the entire PC industry, OEM (Original Equipment Manufacturers) and PC semiconductors have been the worst affected. OEMs are playing catch-up with Android tablets, on the other hand semiconductors are looking for more energy efficient chips. Among all this disappointment, Gartner has released PC statistics for the second quarter of 2013.

Gartner Data

According to the recently released PC industry data, the entire industry has continued its downward decline. Worldwide shipments declined by 10% year-over-year to 76 million units as compared to 85 million units during the same period last year. There was a decline in PC shipment across all continents, and this is the fifth continuous quarterly decline in PC shipments. The research firm blames the rising popularity of cheap Android tablets as the primary factor behind the decline in popularity of PCs and notebooks.

The competition for the top spot in the PC market is still neck to neck between Lenovo and HP. The Chinese OEM has been banking on its ability to target the vast Chinese PC market. The company’s products have quickly emerged as the symbol of reliability and affordability in the PC consumer markets. PC’s descend from being a premium product has actually helped Lenovo gain market share. As consumers are no longer willing to pay a premium price for PC products (instead paying a premium for smartphones and tablets), high priced HP and Dell products are losing consumer favor. Gartner also agrees that the Asia/Pacific region has been the weakest for HP due to cost competition from Lenovo.

Company

2Q13 Shipments

2Q13 Market Share (%)

2Q12 Shipments

2Q12 Market Share (%)

2Q12-2Q13 Growth (%)

Lenovo

12,677,265

16.7

12,755,068

14.9

-0.6

HP

12,402,887

16.3

13,028,822

15.3

-4.8

Dell

8,984,634

11.8

9,349,171

11

-3.9

Acer Group

6,305,000

8.3

9,743,663

11.4

-35.3

ASUS

4,590,071

6

5,772,043

6.8

-20.5

Others

31,041,130

40.8

34,675,824

40.6

-10.5

Total

76,000,986

100

85,324,591

100

-10.9

Dell

Dell is perhaps the worst affected company from the decline in shipments. Unlike other manufacturers, the company didn’t have any other source of revenues. Its PC shipments have been on a consistent decline during the last few quarters. However, during the second quarter of 2013, the company managed to stem the flow. The decline was only 3.9% due to some growth from U.S. and Japan. Unlike the EMEA and European region, these markets are more resistant to entry of price players like Lenovo.

The valuations of Dell are more susceptible to the outcome of its buyout struggle than any shipment figures. Michael Dell and Carl Icahn might have different visions for Dell, but both are struggling to gain control of this PC giant. On Thursday, shareholders were scheduled to vote on the $24.4 billion offer from Michael Dell, but the company postponed the vote to Wednesday. The Dell founder needs 42% to take Dell private, but there are indications that Carl Icahn already has support from 30% of voters.

The activist investor is still pushing Michael Dell to further increase its offer. If we take into account Dell’s sliding earnings and deteriorating PC markets, an increased offer seems highly unlikely. If Dell is not successful in getting the required support for his bid, shares could slide. Considering the fact that there is a limited upside at current levels and huge downside, Dell is not a smart investment choice.

Bottom line

The recently released Gartner data shows that PC shipments are still declining. Consumers are increasingly shifting towards tablets and avoiding ultra-books. Windows 8 has failed to make an impact; rather it has negatively affected PC shipments. The current hardware base doesn't support Windows 8 as recent data indicates that only 10% of PCs shipped during 2Q2013 actually had touch capability.

The last hope of the PC industry lies with Intel’s new Haswell chips. The entire industry expects Haswell chips to be the key catalyst for PC shipments. Lenovo is currently the best investment option in PC OEMs due to its continued shipment growth in a declining industry.

If the Michael Dell loses the shareholder vote on Wednesday, Dell could see a considerable valuation decline. Therefore, with limited upside and huge downside, Dell is an excellent short target.

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Mohsin Saeed has no position in any stocks mentioned. The Motley Fool owns shares of Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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