January 15, 2013 – Dell Inc.’s buyout talks could finally give founder Michael Dell the chance to jump-start growth after years of half-measures have fallen short.
Dell, the third-largest personal-computer maker, is discussing a leveraged buyout with private-equity firms TPG Capital and Silver Lake, a person with knowledge of the matter said Monday. Its stock has lost 43 percent in the past five years, compared with a 3.8 percent gain by the Standard & Poor’s 500 Index.
An LBO would free Dell from the vicissitudes of a stock market that has lost patience with the company’s shrinking PC division and its inability to adapt to an industry-wide shift to mobile and cloud computing. By going private, Chief Executive Officer Michael Dell might gain added flexibility to vie with Apple Inc. and Samsung Electronics Co. for consumers while combating Oracle, Cisco Systems and IBM in the market for data-center gear.
“They could generate a tremendous amount of cash for many years to come, or they could be more dramatic and invest heavily in a mobile strategy – and not be scrutinized by public investors every quarter while they did it,” said Rich Kugele, an analyst at Needham & Co.
A deal could be announced as soon as this week, said one person, who asked not to be identified because the talks are private. Discussions also could collapse if firms fail to arrange financing or find a way to exit the investment, the people said. A buyout would require pulling together more than $20 billion in equity and debt.
Dell, 47, has spent more than $12.7 billion in the past four years to compensate for plunging PC demand. He’s aiming to woo customers bulking up in computing over the Internet with sophisticated storage gear, software and consulting services. While shifting away from PCs and other low-margin electronics can boost profit, it also cuts revenue.
Dell could make that trade-off at a faster pace if he weren’t beholden to public shareholders each quarter, said Abhey Lamba, an analyst at Mizuho Securities USA Inc.
“He wants to de-emphasize about two-thirds of his business, and that’s a hard strategy to push,” Lamba said. “That’s a hard one to play when you’re in the public market.”
CEO Dell, who founded the company with $1,000 in 1984 in his University of Texas dorm room, was viewed as an industry wunderkind. The company had an initial public offering in 1988.
His original insight – that it’s possible to sell complex high-end machines more efficiently and conveniently than was thought possible – helped fuel a 20-year boom.
By cutting out middlemen and honing manufacturing so companies and consumers got exactly the PC configuration they wanted, Dell grabbed share and piled up profit even with lower operating margins than rivals like IBM and Compaq.
Dell ceded the CEO role to Chief Operating Officer Kevin Rollins in 2004 only to come back to the helm in 2007 after the company lost its top PC spot to HP and earnings fell short of estimates. The board sought his return amid an accounting scandal that later resulted in a $100 million settlement with the U.S. Securities and Exchange Commission.
Since his return, Dell has talked publicly about “pruning” his PC business while using the cash it generates to snap up companies in computer networking, storage, and enterprise software.
Dell has also said that he’s prepared to make drastic moves to remake the company’s future. Shortly after coming back, the CEO brought in leading industrial designers for a day to get ideas for how to resurrect the company’s fading brand.
“I was genuinely impressed with his candor; he really wanted to resurrect the brand,” said Gadi Amit, founder of NewDealDesign LLC, who was there that day.
Dell hired an internal design team, though the effort fell flat, Amit said.
“Sporadically, they’ve done some nice products, but it wasn’t enough,” he said.
In 2009, after two years back as CEO, Dell paid $3.9 billion to buy services company Perot Systems and told BusinessWeek that he was prepared to make big strategic changes.
“Everything’s on the table,” he said at the time.
Yet the technology world has largely passed Dell by. Efforts to copy Apple’s design in music players, laptops and phones have flopped, and the company’s server business has been hurt as big Internet companies such as Google and Facebook opt for rival manufacturers, Kugele said.
Even after shares rallied 13 percent on Bloomberg’s report of buyout talks, Dell’s enterprise value of $19.1 billion was 4.4 times earnings before interest, taxes, depreciation and amortization for the last 12 months, according to data compiled by Bloomberg. That’s a lower valuation than every computer- hardware maker larger than $1 billion, except HP, which has a multiple of 3.5, the data show.
By going private, the CEO could lay out his options in much bolder fashion – this time with bigger steps.
Getting there won’t be easy. A leveraged buyout would require raising more equity and debt than any deal since 2007.
Of Dell’s $14.2 billion in cash as of November 2, “substantially all” of it was held overseas, Dell said in a regulatory filing. That creates a tax liability for anyone trying to repatriate it.
“A deal of this size would likely involve multiple PE firms,” Shaw Wu, an analyst at Sterne Agee & Leach & Co., wrote in a Jan. 14 research note. “It would take sizable financing.”
Large leveraged buyouts have been scarce since the financial crisis, and the record for such deals in the technology industry is less than stellar. Chipmaker Freescale Semiconductor Ltd. has struggled as publicly traded company after it was taken private.
Other technology companies, including disk-drive maker Seagate Technology Plc, have attempted to go private and had the talks fall through over valuations or difficulty in financing deals.
Fidelity National Information Services Inc.’s buyout talks fizzled in 2010 after the company sought a higher price than private-equity firms offered.
Michael Dell has floated the idea of a private Dell before. He told an audience in New York in 2010 that he’d entertained the idea, then declined to elaborate to the silent room.
Any deal could get help from Dell’s personal wealth and 15.7 percent stake in the company, which would make it easier to assemble financing. His personal-investment fund, MSD Capital LP, was worth $9.25 billion at the close of trading yesterday, according to the Bloomberg Billionaires Index.
In going private, Dell could spend what it takes, and cut where it’s needed, to complete the transformation of Dell into a more nimble supplier of data-center gear. He could also consider another stab at the mobile market. Jettisoning PCs is one option. Still, desktops and laptops generate tens of billions of dollars in annual sales for Dell. That could be used to fund the enterprise expansion.
The company would also still be playing catch-up to competitors such as IBM and Oracle, which are more swiftly making the transition to cloud computing.
For all its troubles, Dell is still churning out almost a billion dollars in operating income each quarter.
“The PC isn’t going away,” said Needham’s Kugele. “Companies that rely on Dell for PCs wouldn’t be happy with that. But they do need a better mobile strategy.”
Dell is also taking steps to increase the amount of high- margin storage and networking gear it sells alongside computer servers, a market where it’s gaining share. For that job, Dell in August hired president Marius Haas, a veteran of HP who joined Dellafter a yearlong stint at KKR & Co.
An LBO may nevertheless be in order.
“They’re under a lot of scrutiny” from shareholders, Sterne Agee’s Wu said. “Dell would be difficult to fix in a quarter-to-quarter environment.”
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