UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

Form 10-Q

 

 

Commission File Number: 0-17017

 

Dell Inc.

(Exact name of registrant as specified in its charter)

 

 

 

 

One Dell Way

Round Rock, Texas 78682

(Address of principal executive offices) (Zip Code)

 

 

1-800-BUY-DELL

(Registrant’s telephone number, including area code)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes þ  No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes þ  No o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o  No þ

 

As of the close of business on November 22, 2010, 1,930,291,385 shares of common stock, par value $.01 per share, were outstanding.

 

 

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

 

This report includes “forward-looking statements.” The words “may,” “will,” “anticipate,” “estimate,” “expect,” “intend,” “plan,” “aim” and similar expressions as they relate to us or our management are intended to identify these forward-looking statements. All statements by us regarding our expected financial position, revenues, cash flows and other operating results, business strategy, legal proceedings and similar matters are forward-looking statements. Our expectations expressed or implied in these forward-looking statements may not turn out to be correct. Our results could be materially different from our expectations because of various risks, including the risks discussed in “Part I — Item 1A — Risk Factors” of our Annual Report on Form 10-K for the fiscal year ended January 29, 2010, and in our subsequently filed SEC reports. Any forward-looking statement speaks only as of the date on which such statement is made, and, except as required by law, we undertake no obligation to update any forward-looking statement to reflect events or circumstances, including unanticipated events, after the date as of which such statement is made.

 

INDEX

 

 

 

 

DELL INC.

 

CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL POSITION

(in millions)

 

 

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

DELL INC.

 

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(in millions, except per share amounts; unaudited)

 

 

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

DELL INC.

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in millions; unaudited)

 

 

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

 

NOTE 1 — BASIS OF PRESENTATION

 

Basis of Presentation — The accompanying Condensed Consolidated Financial Statements of Dell Inc. (individually and together with its consolidated subsidiaries, “Dell”) should be read in conjunction with the Consolidated Financial Statements and accompanying Notes filed with the U.S. Securities and Exchange Commission (“SEC”) in Dell’s Annual Report on Form 10-K for the fiscal year ended January 29, 2010. The accompanying Condensed Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). In the opinion of management, the accompanying Condensed Consolidated Financial Statements reflect all adjustments of a normal recurring nature considered necessary to fairly state the financial position of Dell and its consolidated subsidiaries at October 29, 2010, the results of its operations for the three and nine months ended October 29, 2010, and October 30, 2009, and its cash flows for the nine months ended October 29, 2010, and October 30, 2009.

 

The preparation of financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the amounts reported in Dell’s Condensed Consolidated Financial Statements and the accompanying Notes. Actual results could differ materially from those estimates. The results of operations for the three and nine months ended October 29, 2010, and October 30, 2009, and the cash flows for the nine months ended October 29, 2010, and October 30, 2009, are not necessarily indicative of the results to be expected for the full year.

 

Recently Issued and Adopted Accounting Pronouncements

 

Revenue Arrangements with Multiple Deliverables — In September 2009, the Emerging Issues Task Force of the Financial Accounting Standards Board (“FASB”) reached consensus on two issues which affects the timing of revenue recognition. The first consensus changes the level of evidence of standalone selling price required to separate deliverables in a multiple deliverable revenue arrangement by allowing a company to make its best estimate of the selling price (“ESP”) of deliverables when more objective evidence of selling price is not available and eliminates the use of the residual method. The consensus applies to multiple deliverable revenue arrangements that are not accounted for under other accounting pronouncements and retains the use of vendor specific objective evidence of selling price (“VSOE”) if available and third-party evidence of selling price (“TPE”), when VSOE is unavailable. The second consensus excludes sales of tangible products that contain essential software elements, that is, software enabled devices, from the scope of revenue recognition requirements for software arrangements. Dell elected to early adopt this accounting guidance at the beginning of the first quarter of Fiscal 2011 on a prospective basis for applicable transactions originating or materially modified after January 29, 2010.

 

Dell’s multiple deliverable arrangements generally include hardware products that are sold with services such as extended warranty services, installation, maintenance, and other services contracts. The nature and terms of these multiple deliverable arrangements will vary based on the customized needs of Dell’s customers. Maintenance, support, and other services are generally delivered according to the terms of the arrangement after the initial sale of hardware or software. Dell’s service contracts may include a combination of services arrangements including deployment, asset recovery, recycling, IT outsourcing, consulting, applications development, applications maintenance, and business process services. These service contracts may include provisions for cancellation, termination, refunds, or service level adjustments. These contract provisions would not have a significant impact on recognized revenue as Dell generally recognizes revenue for these contracts as the services are performed.

 

The adoption of the new guidance on multiple deliverable arrangements did not change the manner in which Dell accounts for its multiple deliverable arrangements as Dell did not use the residual method for the majority of its offerings and its services offerings are generally sold on a standalone basis where evidence of selling price is available. Most of Dell’s products and services qualify as separate units of accounting. Prior to the first quarter of Fiscal 2011, Dell allocated revenue from multiple-element arrangements to the multiple elements based on the relative fair value of each element, which was generally based on the relative sales price of each element when sold separately. Because selling price is generally available based on standalone sales, Dell has limited application of

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

TPE, as determined by comparison of pricing for products and services to the pricing of similar products and services as offered by Dell or its competitors in standalone sales to similarly situated customers. Thus, the adoption of this consensus had no impact on Dell’s consolidated financial statements as of and for the first three quarters of Fiscal 2011, or the year ended January 29, 2010.

 

Pursuant to the new guidance on revenue recognition for software enabled products, certain Dell storage products are no longer included in the scope of the software revenue recognition guidance. Prior to the new guidance, Dell established fair value for Post Contract Customer Support (“PCS”) for these products, based on VSOE and used the residual method to allocate revenue to the delivered elements. Under the new guidance, the revenue for what was previously deemed PCS is now considered part of a multiple element arrangement. As such, any discount is allocated to all elements based on the relative selling price of both delivered and undelivered elements. The impact of applying this consensus was not material to Dell’s consolidated financial statements as of and for the first three quarters of Fiscal 2011, or the year ended January 29, 2010.

 

As new products are introduced in future periods, Dell may be required to use TPE or ESP, depending on the specific facts at the time.

 

Variable Interest Entities and Transfers of Financial Assets and Extinguishments of Liabilities — The pronouncement on transfers of financial assets and extinguishments of liabilities removes the concept of a qualifying special-purpose entity and removes the exception from applying variable interest entity accounting to qualifying special-purpose entities. The pronouncement on variable interest entities requires an entity to perform an ongoing analysis to determine whether the entity’s variable interest or interests give it a controlling financial interest in a variable interest entity. The pronouncements were effective for fiscal years beginning after November 15, 2009. Dell adopted the pronouncements at the beginning of the first quarter of Fiscal 2011. The adoption of these two pronouncements resulted in Dell’s consolidation of its two qualifying special purpose entities. See Note 5 of Notes to Condensed Consolidated Financial Statements for additional information on the impact of the consolidation.

 

Recently Issued Accounting Pronouncements

 

Credit Quality of Financing Receivables and the Allowance for Credit Losses — In July 2010, FASB issued a new pronouncement that requires enhanced disclosures regarding the nature of credit risk inherent in an entity’s portfolio of financing receivables, how that risk is analyzed, and the changes and reasons for those changes in the allowance for credit losses. The new disclosures will require information for both the financing receivables and the related allowance for credit losses at more disaggregated levels. Disclosures related to information as of the end of a reporting period will become effective for Dell in the fourth quarter of Fiscal 2011. Specific disclosures regarding activities that occur during a reporting period, such as the disaggregated rollforward disclosures, will be required for Dell beginning in the first quarter of Fiscal 2012. As these changes only relate to disclosures, they will not have an impact on Dell’s consolidated financial results.

 

Reclassifications — To maintain comparability among the periods presented, Dell has revised the presentation of certain prior period amounts reported within cash flows from operating activities presented in the Condensed Consolidated Statements of Cash Flows. The revision had no impact on the total change in cash from operating activities.

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

NOTE 2 — INVENTORIES

 

		October 29,				January 29,
		2010				2010
		(in millions)
Inventories:
Production materials		$	572			$	487
Work-in-process			199				168
Finished goods			523				396
Inventories		$	1,294			$	1,051

 

NOTE 3 — FAIR VALUE MEASUREMENTS

 

The following table presents Dell’s hierarchy for its assets and liabilities measured at fair value on a recurring basis as of October 29, 2010, and January 29, 2010:

 

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

The following section describes the valuation methodologies Dell uses to measure financial instruments at fair value:

 

Cash Equivalents — The majority of Dell’s cash equivalents consists of commercial paper, including corporate and asset-backed commercial paper, and U.S. government and agencies, all with original maturities of less than ninety days and are valued at fair value which approximates cost. The valuation is based on models whereby all significant inputs are observable or can be derived from or corroborated by observable market data. Dell utilizes a pricing service to assist in obtaining fair value pricing for the majority of this investment portfolio. Dell conducts reviews on a quarterly basis to verify pricing, assess liquidity, and determine if significant inputs have changed that would impact the fair value hierarchy disclosure.

 

Debt Securities — The majority of Dell’s debt securities consists of various fixed income securities such as U.S. government and agencies, U.S. and international corporate, and state and municipal bonds. This portfolio of investments is valued based on model driven valuations whereby all significant inputs, including benchmark yields, reported trades, broker-dealer quotes, issue spreads, benchmark securities, bids, offers and other market related data are observable or can be derived from or corroborated by observable market data for substantially the full term of the asset. Dell utilizes a pricing service to assist management in obtaining fair value pricing for the majority of this investment portfolio. Pricing for securities is based on proprietary models, and inputs are documented in accordance with the fair value measurements hierarchy. Dell conducts reviews on a quarterly basis to verify pricing, assess liquidity, and determine if significant valuation inputs have changed that would impact the fair value hierarchy disclosure. The Level 3 position as of October 29, 2010, and January 29, 2010, represents a convertible debt security that Dell was unable to corroborate with observable market data. The investment is valued at cost plus accrued interest as this is management’s best estimate of fair value.

 

Equity and Other Securities — The majority of Dell’s investments in equity and other securities consists of various mutual funds held in Dell’s Deferred Compensation Plan. The valuation of these securities is based on models whereby all significant inputs are observable or can be derived from or corroborated by observable market data.

 

Retained Interest — The fair value of the retained interest at January 29, 2010 was determined using a discounted cash flow model. Significant assumptions to the model include pool credit losses, payment rates, and discount rates. These assumptions are supported by both historical experience and anticipated trends relative to the particular receivable pool. Retained interest in securitized receivables was included in financing receivables, short-term and long-term, on the Condensed Consolidated Statements of Financial Position. During the first quarter of Fiscal 2011, Dell consolidated its previously unconsolidated special purpose entities and as result, the retained interest as of January 29, 2010, was eliminated. See Note 5 of Notes to Condensed Consolidated Financial Statements for additional information about the consolidation of Dell’s previously unconsolidated special purpose entities.

 

Derivative Instruments — Dell’s derivative financial instruments consist primarily of foreign currency forward and purchased option contracts, and interest rate swaps. The portfolio is valued using internal models based on market observable inputs, including interest rate curves, forward and spot prices for currencies, and implied volatilities. Credit risk is factored into the fair value calculation of Dell’s derivative instrument portfolio. For interest rate derivative instruments, credit risk is determined at the contract level with the use of credit default spreads of either Dell, if in a net liability position, or the relevant counterparty, when in a net asset position. For foreign exchange derivative instruments, credit risk is determined in a similar manner, except that the credit default spread is applied based on the net position of each counterparty with the use of the appropriate credit default spreads.

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

The following table shows a reconciliation of the beginning and ending balances for fair value measurements using significant unobservable inputs (Level 3) for the respective periods:

 

 

 

 

 

Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis — Certain assets are measured at fair value on a nonrecurring basis and therefore are not included in the recurring fair value table above. The assets consist primarily of investments accounted for under the cost method and nonfinancial assets such as goodwill and intangible assets. Investments accounted for under the cost method included in equity and other securities were approximately $16 million and $22 million, on October 29, 2010, and January 29, 2010, respectively. Goodwill and intangible assets are measured at fair value initially and subsequently when there is an indicator of impairment and the impairment is recognized. No impairment charges of goodwill and intangible assets were recorded for the three and nine months ended October 29, 2010. See Note 9 of Notes to Condensed Consolidated Financial Statements for additional information about goodwill and intangible assets.

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

NOTE 4 — INVESTMENTS

 

The following table summarizes, by major security type, the fair value and amortized cost of Dell’s investments. All debt security investments with remaining maturities in excess of one year and substantially all equity and other securities are recorded as long-term investments in the Condensed Consolidated Statements of Financial Position.

 

 

Dell’s investments in debt securities are classified as available-for-sale. Equity and other securities primarily relate to investments held in Dell’s Deferred Compensation Plan, which are classified as trading securities. Both of these classes of securities are reported at fair value using the specific identification method. All other investments are initially recorded at cost and reduced for any impairment losses. The fair value of Dell’s portfolio is affected primarily by interest rate movements rather than credit and liquidity risks.

 

At October 29, 2010, Dell had 68 debt securities that were in a loss position with total unrealized losses of $1 million and a corresponding fair value of $355 million. Dell reviews its investment portfolio quarterly to determine if any investment is other-than-temporarily impaired. An other-than-temporary impairment (“OTTI”) loss is recognized in earnings if Dell has the intent to sell the debt security, or if it is more likely than not that it will be required to sell the debt security before recovery of its amortized cost basis. However, if Dell does not expect to sell a debt security, it still evaluates expected cash flows to be received and determines if a credit loss exists. In the event of a credit loss, only the amount of impairment associated with the credit loss is recognized in earnings. Amounts relating to factors other than credit losses are recorded in other comprehensive income. As of October 29, 2010, Dell evaluated debt securities classified as available-for-sale for OTTI and the existence of credit losses and concluded no such losses should be recognized for the nine months ended October 29, 2010.

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

NOTE 5 — FINANCIAL SERVICES

 

Dell Financial Services L.L.C.

 

Dell offers or arranges various financing options and services for its business and consumer customers in the U.S. through Dell Financial Services L.L.C. (“DFS”), a wholly-owned subsidiary of Dell. DFS’s key activities include the origination, collection, and servicing of customer receivables related to the purchase of Dell products and services. New financing originations, which represent the amounts of financing provided to customers for equipment and related software and services through DFS, were approximately $0.9 billion during both the three months ended October 29, 2010, and October 30, 2009, and $2.8 billion and $2.6 billion during the nine months ended October 29, 2010, and October 30, 2009, respectively.

 

Dell transfers certain customer financing receivables to special purpose entities (“SPEs”). The SPEs are bankruptcy remote legal entities with separate assets and liabilities. The purpose of the SPEs is to facilitate the funding of customer receivables in the capital markets. These SPEs have entered into financing arrangements with multi-seller conduits that, in turn, issue asset-backed debt securities in the capital markets. Dell’s risk of loss related to securitized receivables is limited to the amount of Dell’s right to receive collections for assets securitized exceeding the amount required to pay interest, principal, and other fees and expenses. Dell provides credit enhancement to the securitization in the form of over-collateralization. Prior to Fiscal 2011, the SPE that funds revolving loans was consolidated, and the two SPEs that fund fixed-term leases and loans were not consolidated. In accordance with the new accounting guidance on variable interest entities (“VIEs”), and transfers of financial assets and extinguishment of financial liabilities, Dell determined that these two SPEs would be consolidated as of the beginning of Fiscal 2011. The primary factors in this determination were the obligation to absorb losses due to the interest Dell retains in the assets transferred to the SPEs in the form of over-collateralization, and the power to direct activities through the servicing role performed by Dell. Dell recorded the assets and liabilities at their carrying amount as of the beginning of Fiscal 2011, with a cumulative effect adjustment of $13 million to the opening balance of retained earnings in Fiscal 2011.

 

Dell’s securitization programs contain standard structural features related to the performance of the securitized receivables. These structural features include defined credit losses, delinquencies, average credit scores, and excess collections above or below specified levels. In the event one or more of these criteria are not met and Dell is unable to restructure the program, no further funding of receivables will be permitted and the timing of Dell’s expected cash flows from over-collateralization will be delayed. At October 29, 2010, these criteria were met.

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

Financing Receivables

 

The following table summarizes the components of Dell’s financing receivables:

 

		October 29,				January 29,
		2010				2010
		(in millions)
Financing receivables, net:
Customer receivables:
Revolving loans, gross		$	2,356			$	2,046
Fixed-term leases and loans, gross			1,929				824
Customer receivables, gross			4,285				2,870
Allowance for losses			(257	)			(237	)
Customer receivables, net			4,028				2,633
Residual interest			269				254
Retained interest			-				151
Financing receivables, net		$	4,297			$	3,038
Short-term		$	3,588			$	2,706
Long-term			709				332
Financing receivables, net		$	4,297			$	3,038

 

Prior to the first quarter of Fiscal 2011, customer receivables were either included in the consolidated financial statements or held by nonconsolidated securitization SPEs. In prior periods, Dell had a retained interest in the customer receivables held in nonconsolidated securitization SPEs. The pro forma table below shows what customer receivables would have been if the nonconsolidated securitization SPEs were consolidated as of January 29, 2010:

 

						January 29,
		October 29,				2010
		2010				(Pro forma)
		(in millions)
Customer receivables, gross:
Consolidated receivables		$	4,285			$	2,870
Receivables in previously nonconsolidated SPEs			-				774
Customer receivables, gross		$	4,285			$	3,644
Customer receivables 60 days or more delinquent		$	166			$	138

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

Included in financing receivables, net, are receivables that are held by consolidated VIEs as shown in the table below:

 

		October 29,				January 29,
		2010				2010
		(in millions)
Financing receivables held by consolidated VIEs, net:
Short-term, net		$	1,096			$	277
Long-term, net			293				-
Financing receivables held by consolidated VIEs, net		$	1,389			$	277

 

The following table summarizes the changes in the allowance for financing receivable losses for the three and nine months ended October 29, 2010, and October 30, 2009:

 

 

Customer Receivables

 

The following is the description of the components of Dell’s customer receivables:

 

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

Purchased Credit-Impaired Loans

 

Purchased Credit-Impaired (“PCI”) loans are acquired loans for which it is probable that Dell will not collect all contractually required principal and interest payments. During the third quarter of Fiscal 2011, Dell purchased a portfolio of revolving loan receivables from CIT Group Inc. (“CIT”) that consisted of revolving Dell customer account balances which meet the definition of PCI loans, as Dell does not expect to collect all contractually required principal and interest payments. These receivables were purchased for $430 million and had a principal and accrued interest balance of $570 million at the date of purchase. Dell expects to collect total cash flows of approximately $596 million over the term of the receivables, including future interest billings. At October 29, 2010, the outstanding balance of these receivables, including principal and accrued interest, was $558 million and the carrying amount was $410 million. Additionally, as part of the purchase of this portfolio, Dell acquired the rights to future recoveries on previously CIT-owned Dell revolving accounts that previously had been charged off as uncollectible by CIT. Dell does not expect future recoveries under these rights to be significant.

 

The excess of cash flows expected to be collected over the carrying value of PCI loans is referred to as the accretable yield and is accreted into interest income using the effective yield method based on the expected future cash flows over the estimated lives of the PCI loans. The following table shows activity for the accretable yield on the PCI loans for the three months ended October 29, 2010:

 

		October 29,
		2010
		(in millions)
Accretable Yield:
Balance at beginning of period			-
Additions/Purchase			166
Accretion			(9	)
Balance at end of period		$	157

 

In addition, contractually required payments on the PCI loans were estimated to be approximately $928 million. The contractually required payments assume all principal and interest payments are received on all revolving accounts as if no accounts are charged off. Contractual payments include future interest that would have continued to accrue on the customer account post charge-off. Due to the nature of these accounts, both contractual and expected collections were estimated using consistent expectations of customer payment behavior that were based on Dell’s past experience with this and similar portfolios.

 

Residual Interest

 

Dell retains a residual interest in equipment leased under its fixed-term lease programs. The amount of the residual interest is established at the inception of the lease based upon estimates of the value of the equipment at the end of the lease term using historical studies, industry data, and future value-at-risk demand valuation methods. On a quarterly basis, Dell assesses the carrying amount of its recorded residual values for impairment. Anticipated declines in specific future residual values that are considered to be other-than-temporary are recorded currently in earnings.

 

Asset Securitizations

 

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

 

 

Retained Interest

 

Prior to adopting the new accounting guidance on VIEs and transfers of financial assets and extinguishment of financial liabilities, certain transfers of financial assets to nonconsolidated qualified SPEs were accounted for as a sale. Upon the sale of the customer receivables to the SPEs, Dell recognized a gain on the sale and retained a residual beneficial interest in the pool of assets sold, referred to as retained interest. The retained interest represented Dell’s right to receive collections for securitized assets that exceed the amount required to pay interest, principal, and other fees and expenses.

 

Retained interest was stated at the present value of the estimated net beneficial cash flows after payment of all senior interests. Dell valued the retained interest at the time of each receivable transfer and at the end of each reporting period. The fair value of the retained interest was determined using a discounted cash flow model with various key assumptions, including payment rates, credit losses, discount rates, and the remaining life of the receivables sold. These assumptions were supported by both Dell’s historical experience and anticipated trends relative to the particular receivable pool. The key valuation assumptions for retained interest could have been affected by many factors, including repayment terms and the credit quality of receivables securitized.

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

The following table summarizes the activity in retained interest for the three and nine months ended October 30, 2009:

 

		Three Months				Nine Months
		Ended				Ended
		October 30,				October 30,
		2009				2009
		(in millions)
Retained interest:
Retained interest at beginning of period		$	119			$	396
Issuances			33				285
Distributions from conduits			(27	)			(62	)
Net accretion			4				28
Change in fair value for the period			5				(11	)
Impact of special purpose entity consolidation			-				(502	)
Retained interest at end of period		$	134			$	134

 

The table below summarizes the key assumptions used to measure the fair value of the retained interest at time of transfer during the three months ended October 30, 2009:

 

 

The charge-off statistics for securitized leases and loans held by nonconsolidated special purpose entities are:

 

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

NOTE 6 — BORROWINGS

 

The following table summarizes Dell’s outstanding debt:

 

		October 29,				January 29,
		2010				2010
		(in millions)
Long-Term Debt
Notes:
$400 million issued on June 10, 2009, at 3.375% due June 2012 (“2012 Notes”) with interest payable June 15 and December 15 (includes hedge accounting adjustments)		$	403			$	401
$600 million issued on April 17, 2008, at 4.70% due April 2013 (“2013A Notes”) with interest payable April 15 and October 15 (includes hedge accounting adjustments)			615				599
$500 million issued on September 7, 2010, at 1.40% due September 2013 (“2013B Notes”) with interest payable March 10 and September 10			499				-
$500 million issued on April 1, 2009, at 5.625% due April 2014 (“2014 Notes”) with interest payable April 15 and October 15			500				500
$700 million issued on September 7, 2010, at 2.30% due September 2015 (“2015 Notes”) with interest payable March 10 and September 10			700				-
$500 million issued on April 17, 2008, at 5.65% due April 2018 (“2018 Notes”) with interest payable April 15 and October 15			499				499
$600 million issued on June 10, 2009, at 5.875% due June 2019 (“2019 Notes”) with interest payable June 15 and December 15			600				600
$400 million issued on April 17, 2008, at 6.50% due April 2038 (“2038 Notes”) with interest payable April 15 and October 15			400				400
$300 million issued on September 7, 2010, at 5.40% due September 2040 (“2040 Notes”) with interest payable March 10 and September 10			300				-
Senior Debentures
$300 million issued on April 3, 1998, at 7.10% due April 2028 with interest payable April 15 and October 15 (includes the impact of interest rate swap terminations)			391				394
Other
India term loan: entered into on October 15, 2009, at 8.9% due October 2011 with interest payable monthly			-				24
Structured financing debt			261				-
Total long-term debt			5,168				3,417
Short-Term Debt
Commercial paper			-				496
Structured financing debt			826				164
Other			-				3
Total short-term debt			826				663
Total debt		$	5,994			$	4,080

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

During the third quarter of Fiscal 2011, Dell issued the 2013B Notes, the 2015 Notes, and the 2040 Notes (collectively, the “Issued Notes”) under an automatic shelf registration statement that was filed in November 2008. The net proceeds from the Issued Notes, after payment of expenses, were approximately $1.5 billion. The Issued Notes are unsecured obligations and rank equally in right of payment with Dell’s existing and future unsecured senior indebtedness. The Issued Notes effectively rank junior to all indebtedness and other liabilities, including trade payables, of Dell’s subsidiaries. The Issued Notes were issued pursuant to a Supplemental Indenture dated September 10, 2010, between Dell and a trustee, with terms and conditions substantially the same as those governing the Notes outstanding as of January 29, 2010.

 

The estimated fair value of total debt at October 29, 2010, was approximately $6.2 billion. The fair values of the structured financing debt, commercial paper, and other short-term debt approximate their carrying values as the interest rates are variable and at market rates. The carrying value of the Senior Debentures includes an unamortized amount related to the termination of interest rate swap agreements in the fourth quarter of Fiscal 2009, which were previously designated as hedges of the debt.

 

During the first quarter of Fiscal 2011 and the fourth quarter of Fiscal 2010, Dell entered into interest rate swap agreements to effectively convert the fixed rates of the 2012 Notes and the 2013A Notes to floating rates. The floating rates are based on six-month or three-month LIBOR plus a fixed rate. See Note 7 of Notes to Condensed Consolidated Financial Statements for additional information about interest rate swaps.

 

The indentures governing the Notes, the Senior Debentures, and the structured financing debt contain customary events of default, including failure to make required payments, failure to comply with certain agreements or covenants, and certain events of bankruptcy and insolvency. The indentures also contain covenants limiting Dell’s ability to create certain liens; enter into sale-and-lease back transactions; and consolidate or merge with, or convey, transfer or lease all or substantially all of its assets to, another person. As of October 29, 2010, there were no events of default with respect to the Notes, the Senior Debentures, or the structured financing debt.

 

Structured Financing Debt — As of October 29, 2010, Dell had $1.1 billion outstanding in structured financing related debt primarily through the fixed term lease and loan and revolving loan securitization programs. See Note 5 and Note 7 of the Notes to Condensed Consolidated Financial Statements for further discussion on securitization-related structured financing debt and its related interest rate swap agreements.

 

Commercial Paper — At October 29, 2010, Dell had no outstanding commercial paper. On January 29, 2010, there was $496 million outstanding under the commercial paper program with a weighted-average interest rate of 0.24%.

 

Dell’s commercial paper program is $2 billion with corresponding revolving credit facilities of $2 billion. Dell’s credit facilities consist of two agreements with $1 billion expiring on June 1, 2011 and the remaining $1 billion expiring on April 2, 2013. The credit facilities require compliance with conditions that must be satisfied prior to any borrowing, as well as ongoing compliance with specified affirmative and negative covenants, including maintenance of a minimum interest coverage ratio. As of October 29, 2010, there were no events of default and Dell was in compliance with its minimum interest coverage ratio covenant. Amounts outstanding under the credit facilities may be accelerated for events of default, including failure to pay principal or interest, breaches of covenants, or non-payment of judgments or debt obligations. There were no outstanding advances under the credit facilities as of October 29, 2010.

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

NOTE 7 — DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES

 

Derivative Instruments

 

As part of its risk management strategy, Dell uses derivative instruments, primarily forward contracts and purchased options, to hedge certain foreign currency exposures and interest rate swaps to manage the exposure of its debt portfolio to interest rate risk, as Dell issues long-term debt based on market conditions at the time of financing. Dell’s objective is to offset gains and losses resulting from these exposures with gains and losses on the derivative contracts used to hedge the exposures, thereby reducing volatility of earnings and protecting fair values of assets and liabilities. Dell applies hedge accounting based upon the criteria established by accounting guidance for derivative instruments and hedging activities, including designation of its derivatives as fair value hedges or cash flow hedges and assessment of hedge effectiveness. Dell records all derivatives in its Condensed Consolidated Statements of Financial Position at fair value. Dell assesses hedge effectiveness both at the onset of the hedge and at regular intervals throughout the life of the derivative and recognizes any ineffective portion of the hedge, as well as amounts not included in the assessment of effectiveness, in earnings as a component of interest and other, net.

 

Cash Flow Hedges

 

Dell uses a combination of forward contracts and purchased options designated as cash flow hedges to protect against the foreign currency exchange rate risks inherent in its forecasted transactions denominated in currencies other than the U.S. dollar. The risk of loss associated with purchased options is limited to premium amounts paid for the option contracts. The risk of loss associated with forward contracts is equal to the exchange rate differential from the time the contract is entered into until the time it is settled. The majority of these contracts typically expire in 12 months or less. As of October 29, 2010, and January 29, 2010, the total notional amount of foreign currency option and forward contracts designated as cash flow hedges was $5.3 billion and $4.2 billion, respectively.

 

Dell uses interest rate swaps to hedge the variability in cash flows related to the interest rate payments on structured financing debt. The interest rate swaps economically convert the variable rate on the structured financing debt to a fixed interest rate to match the underlying fixed rate being received on fixed term customer leases and loans. The duration of these contracts typically ranges from 30 to 42 months. Certain of these swaps are designated as cash flow hedges. As of October 29, 2010, the total notional amount of interest rate contracts designated as cash flow hedges was $612 million. Dell did not have any interest rate contracts designated as cash flow hedges as of January 29, 2010.

 

For derivative instruments that are designated and qualify as cash flow hedges, Dell records the effective portion of the gain or loss on the derivative instrument in accumulated other comprehensive income (loss) as a separate component of stockholders’ equity and reclassifies these amounts into earnings in the period during which the hedged transaction is recognized in earnings. Dell reports the effective portion of cash flow hedges in the same financial statement line item within earnings as the changes in value of the hedged item.

 

Dell measures hedge ineffectiveness of cash flow hedges by comparing the cumulative change in the fair value of the hedge contract with the cumulative change in the fair value of the hedged item, both of which are based on forward rates. During the nine months ended October 29, 2010, Dell did not discontinue any cash flow hedges that had a material impact on Dell’s results of operations. Substantially all forecasted foreign currency transactions were realized in Dell’s actual results.

 

The aggregate unrealized net loss for interest rate swaps and foreign currency exchange contracts, recorded as a component of comprehensive income, for the three and nine months ended October 29, 2010, was $105 million and $219 million, respectively.

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

Effect of Derivative Instruments Designated as Cash Flow Hedges on the Condensed Consolidated Statements of Financial Position and the Condensed Consolidated Statements of Income

 

 

Fair Value Hedges

 

Dell uses interest rate swaps to modify the market risk exposures in connection with long-term debt to achieve primarily LIBOR-based floating interest expense. As of October 29, 2010, the interest rate swaps economically hedge all interest rate exposure on the 2012 Notes and the 2013A Notes. As of October 29, 2010, and January 29, 2010, the total notional amount of interest rate swaps designated as fair value hedges of Dell’s long-term debt was $600 million and $200 million, respectively.

 

Dell measures hedge ineffectiveness of fair value hedges by calculating the periodic change in the fair value of the hedge contract and the periodic change in the fair value of the hedged debt. To the extent that these fair value changes do not fully offset each other, the difference is recorded as ineffectiveness in earnings as a component of interest and other, net. During the three and nine months ended October 29, 2010, the net fair value change of the interest rate contracts, offset by the change in the fair value of the hedged debt, resulted in a gain of $4 million and $9 million, respectively. Dell did not have any fair value hedges during the nine months ended October 30, 2009.

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

Derivatives Not Designated as Hedging Instruments

 

Dell uses forward contracts to hedge monetary assets and liabilities, primarily receivables and payables, denominated in a foreign currency. The change in the fair value of these instruments represents a natural hedge as their gains and losses offset the changes in the underlying fair value of the monetary assets and liabilities due to movements in currency exchange rates. These contracts generally expire in three months or less. These contracts are considered economic hedges and are not designated. Dell recognized a loss of $6 million and $64 million, for the change in fair value of these foreign currency forward contracts, during the third quarters of Fiscal 2011 and 2010, respectively, and a $52 million gain and a $90 million loss during the nine months ended October 29, 2010, and October 30, 2009, respectively. As of October 29, 2010, and January 29, 2010, the total notional amount of other foreign currency forward contracts not designated as hedges was $159 million and $20 million, respectively.

 

Certain interest rate swap agreements associated with structured financing debt are not designated. The amount of change in fair value recognized in interest and other, net, for these interest rate hedges was not material for the three and nine months ended October 29, 2010. As of October 29, 2010, the total notional amount of other interest rate swap contracts associated with structured financing debt not designated as hedges was $172 million. Dell did not have any interest rate swap contracts associated with structured financing debt as of January 29, 2010.

 

As of October 29, 2010, Dell had $400 million notional amount of interest rate swaps related to the 2012 Notes that were not designated as fair value hedges. The change in the fair value of these interest rate swaps recognized in interest and other, net, was not material for the three and nine months ended October 29, 2010. Dell did not have any undesignated interest rate swaps associated with its long-term debt portfolio as of January 29, 2010.

 

Derivative Instruments Additional Information

 

Cash flows from derivative instruments are presented in the same category in the Condensed Consolidated Statements of Cash Flows as the cash flows from the intended hedged items or the economic hedges.

 

While Dell has foreign exchange derivative contracts in more than 20 currencies, the majority of the notional amounts are denominated in the Euro, British Pound, Japanese Yen, Canadian Dollar, and Australian Dollar.

DELL INC.

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)

(unaudited)

 

Dell presents its foreign exchange derivative instruments on a net basis in the Condensed Consolidated Statements of Financial Position due to the right of offset by its counterparties under master netting arrangements. The fair values of foreign exchange and interest rate derivative instruments presented on a gross basis as of October 29, 2010 and January 29, 2010 are as follows: