by Tom Taulli | May 20, 2013 2:20 pm
Wall Street was expecting a terrible first-quarter report from Dell (DELL) … and it delivered.
Last week, the company reported that for Q1 2013, revenues fell by 2% to $14.1 billion and adjusted profits plunged by 79% to $130 million, or 7 cents a share.
While the news was bad, the stock hardly budged in response. A likely reason for this is that Dell is in the process of going private via PE sponsor Silver Lake Partners. The proposed deal is expected to be struck at $24.4 billion, which would come to about $13.65 per share.
But is Dell really dead money? Keep in mind that billionaire investor Carl Icahn thinks the deal is tantamount to a “great giveaway,” and he has actually made his own bid for the company, with Southeastern Asset Management also joining the effort.
So should you buy Dell? To see, let’s look at the company’s pros and cons:
Enterprise Solutions Group: This division — which includes servers, networking systems and storage — is Dell’s gem, though most of these products have come from acquisitions such as Force10 Networks and Quest Software. One of Dell’s hottest products in the segment — the hyper-scale data center server — powers four of the top five search engines and three-quarters of the top social media sites in the world. Dell does face strong rivals like IBM (IBM) and Hewlett-Packard (HPQ) in the enterprise space, cut the company has remained impressive. In the latest quarter, EGS revenues increased by 10% to $3.1 billion and operating income was up an impressive 71% to $136 million. As a note, another promising Dell segment — for infrastructure, cloud and security services — increased Q1 revenues 11% year-over-year thanks in large part to its security offerings, which unsurprisingly remain a high priority for corporate clients.
Global Footprint: From the start, Dell has built a direct-to-consumer model, which has resulted in a massive base of small- and medium-sized business customers — something that’s in stark contrast to other mega-vendors like Oracle (ORCL), Cisco (CSCO) and IBM. As such, Dell’s distribution channel could be highly attractive in a buyout.
Patents: Dell has 3,449 patents issued and 1,660 pending. In today’s hyper-competitive world, this intellectual property can be quite valuable. According to patent firm M-CAM Inc., Dell’s IP covers important areas such as “graphics processing, data transfer, networks, and switches.” It’s not easy to gauge the value of the portfolio, but as seen for years, companies like IBM, Apple (AAPL) and Google (GOOG) will spend billions to acquire patents.
The Blackstone Factor: When it comes to corporate turnarounds, Blackstone (BX) is a pro. But after deep analysis of the due diligence materials on Dell, BX walked away from the deal. In a letter, Blackstone detailed several reasons it was no longer interested, including deterioration in the overall PC market and the problems with the company’s financials. When Blackstone says there are major problems, investors should take notice. That’s doubly true when you consider other top private equity firms including KKR (KKR) and TPG Capital also passed on the deal.
Market Trends: According to a report from IDC, global shipments of PCs dropped by nearly 14% in the first quarter. Mobile devices are eating into the market, and Dell’s own offerings have been duds. The company had hopes that Microsoft’s (MSFT) Windows 8 operating system would provide a boost, but that never materialized. In the latest quarter, PC revenues dropped by 9% to $8.9 billion and operating income fell by 65% to $224 million.
Michael Dell: Michael Dell started this massive PC empire from his dorm room, cementing his place among America’s greatest entrepreneurs. But his expertise is in low-cost approaches, not innovation. Other providers, like Lenovo (LNVGY), have been even better platforms for this, and as a result, Dell has missed out on some of the biggest trends in tech. Thus, while his accomplishments can’t be understated, he’s probably not the best choice for leading DELL forward, as it must create compelling products to ever be relevant again.
Icahn’s proposed bid could prove to be worth more — in the long term. Under Icahn’s plan, shareholders could get either a $12 per share dividend payout and an equity stub worth $1.65, vs. just the $13.65 per share in equity they would get from a Silver Lake buyout. If Dell could find ways to improve its operations and roll out innovative products, the value of those “stubs” could be substantial.
However, it seems unlikely that shareholders will vote for Icahn’s proposal, as the shareholder base is much more different now. According to a post in the Wall Street Journal, long-term holders like T. Rowe Price (TROW), Brown Brothers Harriman and Oakmark Funds have sold large amounts of shares, and the buyers have been mostly hedge funds. These investors are looking for a quick return and can make money on small moves in a stock price; however, that probably won’t add up to as much for retail investors.
So should you buy Dell? No — for now, the cons outweigh the pros.
Tom Taulli runs the InvestorPlace blog IPO Playbook. He is also the author of High-Profit IPO Strategies, All About Commodities and All About Short Selling. Follow him on Twitter at @ttaulli. As of this writing, he did not hold a position in any of the aforementioned securities.
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