Morgan Stanley: Why is Dell's sharp decline considered an opportunity

On May 30th, the latest quarterly report of the new favorite in the AI ​​track, Dell, was released. Despite multiple core financial indicators exceeding expectations, the stock price plummeted by 20% after hours that day due to a decline in profit and a lack of surprises in the backlog of AI server orders.

Analysts from Morgan Stanley, including Erik Woodring, believe that Dell's stock price had already surged by 39% in the single month of May, hitting a historical high, far outperforming the broader market. This significant drop is also attributed to some investors taking profits. However, Erik believes that this pullback is closer to an opportunity for "picking up passengers," and Dell still has room for growth.

Poor profitability is the result of weak storage performance and traditional server price competition

Specifically, Dell's first-quarter revenue was $22.2 billion, a year-on-year increase of 6.3%, slightly higher than analysts' expected $21.68 billion. However, the profit margin of the Infrastructure Solutions Group (ISG) was only 8%, a 7 percentage point decrease from the previous quarter, which was the main reason dragging down performance.

Erik Woodring stated that the decline in ISG's profit margin was mainly due to the poor performance of the storage business, not the decrease in profit margin of AI servers. Although the revenue from the storage business remained flat year-on-year, the higher proportion of hybrid cloud product VXRail led to a decrease in overall gross margin. In addition, pricing competition in traditional servers also brought certain pressure on profit margins.

However, it is worth noting that the AI server business performed well, with revenue, orders, and backlog orders all exceeding expectations. In this quarter, Dell's AI servers achieved $1.7 billion in revenue, a growth of over 100% year-on-year. New orders reached $2.6 billion, and backlog orders reached $3.8 billion, a 31% year-on-year increase. More notably, the total value of AI server project leads, including orders and backlog orders, exceeded $12 billion, several times the expected AI server revenue for fiscal year 2025.

The analyst wrote:

This indicates that the momentum of the AI server business is still ongoing. We believe that our expectation of $23 billion in AI server revenue for fiscal year 2026 may be too conservative.

AI server business is expected to continue its strong performance in the future

In fact, in the $2.5 billion upward revision of the overall revenue guidance for this fiscal quarter, almost 100% comes from the stronger revenue expectations of AI servers, fully demonstrating that AI servers are rapidly becoming Dell's new growth engine.

Regarding the Client Solutions Group (CSG), Dell management stated that commercial PC demand is recovering, with a 3% year-on-year growth. With the end of support for Windows 10 in January 2025, the demand for enterprise PCs is expected to further increase. At the same time, the rise of AI PCs will also drive up prices.

Looking ahead, analysts expect Dell's overall revenue for fiscal year 2025 to increase by 10.5% to $97.5 billion, and by 6.6% to $104.1 billion in fiscal year 2026. Earnings per share for the year are projected to be $8 and $10.34, respectively, with the latter increasing by $0.22 from previous expectations Based on the above expectations, Morgan Stanley has raised Dell's target stock price to $155, representing an 8.78% upside from the current level. In a bullish scenario, Dell's target price could potentially reach $200. Analysts believe that Dell is poised to achieve sustained profit expansion in the coming years through the rapid growth of its artificial intelligence business. Additionally, stock buybacks and inclusion in the S&P 500 index are expected to further boost the stock price performance