Here's Why Dell Is Being Stalked by Private Equity

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Stig Nygaard

***UPDATE ON BUYOUT NEWS***
News of management led LBO is coming across the wires. Considering Southeastern Asset Management's cost basis in the stock (the largest shareholder behind Michael Dell), and that the company has repurchased $4.2 billion worth of shares at a price of ~$15 per share over the last three years, I think it will be very difficult to take this private for less than $16.00 per share.

Dell is trading for ~3.5 times FCF (net of adjusted excess cash), and the non-PC business is now worth more than the PC business.

As far as a near-term catalyst, I would note that the company did not buy back any shares in the last quarter. I don't believe Dell is planning to purchase a massive software company (see acquisition analysis in the detailed write-up), so there must be some other reason for this anomaly. This is an anomaly because Dell spent $2.7 billion buying back shares at much higher prices in 2011 (fiscal 2012) and bought back $723 million worth of stock in the first half of this year.

I don't believe that Michael Dell no longer believes his stock is a good deal (at a ~35% discount to his most recent $400 million personal open market purchase), but rather that he is considering a buyout of the company. Michael Dell is estimated to be worth $16 billion by Forbes, so he could definitely get this done. For what it is worth, his personal hedge fund has been selling down their equity positions this year.

I believe Dell is a great value in its own right, and that it has a number of great businesses (notably servers, storage, deployment and support services, and software), and a strong market position among the small and medium businesses that will increasingly be consuming IT services.

The concerns about the PC business are overblown and Dell's transition to a contract manufacture model have given this business a lot of operational flexibility as was well demonstrated this year. The PC business can go to hell for all I care and this investment will still do well (it is a bit frustrating that people only want to talk about the PC business), but even if it does, $2 billion in further cuts to fixed costs at "core Dell" will ensure that it still throws off FCF.

If the stock isn't LBO'd or there are no large buybacks, then this is simply a very cheap and growing IT company. I calculate actual net excess cash to be $4.00 per share (that they could get at). Some people want to say that this $7 billion will be swallowed up by acquisitions, but these people then need to admit that this is a growth company. Other people think its stagnant - in that case 3.5X FCF is a good price to pay.

David Einhorn was right about the PC business slowing and the amount being spent on acquisitions, but these realities are now priced in and the stock is $3.00 lower. On an EV basis, Dell's value has fallen roughly 30% since Einhorn decided to sell. It was also disappointing that Dell's board didn't seriously consider his GO-UPS strategy, which was brilliant.

Unlike HP, Dell is not replacing lost PC revenue with expensively bought, non-synergistic, new revenue, but rather building out an end-to-end IBM-like services model at a lower price point. Dell has not had to take a write-down on any of their acquisitions, so a minimum it appears they are not destroying value. Any way you slice it, this company is dirt cheap, regardless of what the PC business does. The net excess cash adds a lot of flexibility as well.

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