Deal to take Dell private is a big test

  • Article by: MICHAEL J. DE LA MERCED and QUENTIN HARDY , New York Times
  • Updated: February 5, 2013 - 11:25 PM

Founder Michael Dell is betting that PCs can keep generating cash in a world of shrinking margins.

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Dell Inc. CEO Michael Dell is adding $700 million to his existing stake in the company he founded.

 

For Dell Inc., a $24.4 billion deal to take itself private is a bold move out of Wall Street’s spotlight as it tries to remake itself in a world where personal computers are no longer the big business in technology.

Yet the buyout — which was announced Tuesday and would be the biggest by far since the days of the recession — is a huge gamble. It will saddle Dell with $15 billion of new debt, and it does nothing to divert the forces reshaping the technology industry and undercutting the company’s business.

Fifteen years ago, Dell made enormous profits from selling customized PCs directly to customers. Six years ago, it was the world’s leading maker of personal computers. Today, it is in third place, behind Hewlett-Packard and Lenovo, and falling.

Dell’s share of an already contracting market for PCs slipped to 10.7 percent last year, from 16.6 percent six years earlier.

No-name rivals from Taiwan and China grind earnings to razor-thin margins. Android smartphones and iPads, not Windows laptops and desktops, are the bestselling and most moneymaking devices.

And while a shift to cloud computing has increased demand for data centers — an opportunity for Dell to sell servers — big customers like Google and Facebook build their own equipment cheaply. The rise of cloud services has also prompted many companies to forgo buying additional machines, instead relying on rented time and applications running on faraway computer networks.

Dell’s share of the market for servers slipped about 1 percentage point, to 22.2 percent of 9.5 million servers sold in 2011. The greater problem in this segment is the pressure on profit margins. Shaw Wu, an analyst with Sterne Agee, estimates operating margins on servers, once about 15 percent, are now “in the high single digits, compared with the mid-single digits for PCs.”

It is likely that servers will soon have PC-like margins, he said.

Michael Dell is betting his stake in the company and some $700 million of his fortune that he can meet those challenges and turn around a business he started in 1984 in his dormitory room at the University of Texas.

‘Time, investment, patience’

“Dell’s transformation is well underway, but we recognize it will still take more time, investment and patience,” Dell wrote in a memo to employees Tuesday. “I believe that we are better served with partners who will provide long-term support to help Dell innovate and accelerate the company’s transformation strategy.”

Dell’s investment means he will maintain control of the company if its shareholders approve the deal. The private equity firm Silver Lake, one of the most prominent investors in technology companies, is contributing about $1 billion in cash.

And Microsoft, seeking to shore up one of its most important business partners, has agreed to lend Dell $2 billion. Microsoft itself is under pressure, with longtime suppliers flirting with rivals to its Windows operating system.

“Microsoft is committed to the long-term success of the entire PC ecosystem and invests heavily in a variety of ways to build that ecosystem for the future,” the software giant said in a statement.

Despite taking on an additional $15 billion in debt, Dell and Silver Lake argue that the company will survive, thanks to the cash that the PC business still generates.

The deal is the biggest test yet for Dell, 47, who has a fortune estimated at $16 billion. After a three-year absence, he returned as chief executive of the company in 2007.

Dell’s shares have fallen 31 percent over the past five years, closing Tuesday at $13.42 — below the buyout’s offer price of $13.65.

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