It’s not often that we find a small company buying out a larger one. Even rarer when the current market evaluation of one stands at nearly half the other and the sums are to the tune of $25 and $50 billion respectively. So what made Dell Inc. (NASDAQ:DELL) decide to buyout the behemoth that is EMC Corporation (NYSE:EMC) ? Stick with us as we delve deeper into the largest tech deal in history and look at the reasons why $67 billion are changing hands!
Dell in the last few years has slipped from their top spot in the PC manufacturers list. Companies like HP and Lenovo have come up the ranks and with better spec sheets at lower prices and Dell find themselves at the wrong end of the stagnated PC market. Since then Dell has gone private in 2013 with at a price of $25 billion mainly to escape the harsh glare of investors and the public market. That deal, however, has them reeling with a debt of $12 billion already and one begins to wonder where Dell will find the money to fund the $67 billion for the “world leading company” that Mr. Dell has envisioned.
Let’s Talk Money
While Dell may be a familiar name to most people, EMC is more of an unknown entity to those not involved in enterprise grade storage solutions. As such one may tend to wonder why Dell would want to pay this staggering amount, so, to make some sense out of it all, we are breaking down the deal and comparing the price gap between the offered price from Dell and their current market evaluations.
Dell intends to pay EMC shareholders $24.05 a share in cash and a tracking stock that represents VMware Inc. (NYSE:VMW), a publicly traded virtualization giant where EMC holds 80% of the stocks. EMC shareholders will get 0.111 shares of the VMware tracking stock for each EMC share they own. Adding it all up it works out to roughly $33.15 per share for the shareholders. This puts Dell’s quote at a 28% increase over the market value of EMC’s stock at the close of October 7th before rumors of the deal started. Since then EMC shares have climbed 1.8% and is now hovering around $28.35.
According to analyst Rajesh Ghai, this is the best deal that EMC could have hoped for. In their 3rd quarter review, EMC has revealed a $6.05 billion revenue which falls short of Wall Street’s expectations of $6.24 billion. With VMware the only shining star in EMC’s armory, showcasing a YoY growth rate of 10%, this is a golden opportunity to make both shareholders and disgruntled investors like Elliott Management Corp happy!
But Can They Pull This One Off?
The chief concern among many remains the fact that if Dell is indeed capable of raising the capital required to carry out the deal. Bernstein analyst Toni Sacconaghi and Wells Fargo analyst Maynard Um echo similar sentiment as they predict Dell being unable to raise the offered amount.
A different perspective is offered by one of the bankers who had worked in the previous deal in 2013 when Dell went private. Private equity firm Silver Lake and Microsoft Corp, two previous investors in Dell could be tapped as well as other private investors could be approached to make the $40 billion that Dell is falling short by. That though would leave the company with a debt to the tune of nearly $50 billion, something that Dell is optimistic that they can pay off in 18-24 months.
What does Dell stand to Gain From this Deal?
Dell has been looking to move away from the crowded PC and server market and head into the more lucrative enterprise grade storage space. The key to survival in the modern world is data centers and with their prowess in servers and EMC’s storage business, they will become a force to reckon with. EMC had 21 percent of the storage market last year, about twice what Dell had, according to data compiled by Bloomberg.
Both CEOs have agreed that combining the resources of both companies so that they can create a one stop solution for enterprise clients looking to get a cloud based computing solution is the right way forward. Getting into the enterprise with private cloud computing and storage where Dell can compete with IBM, HP, and other traditional vendors, as well as Pure Storage and newer vendors could just be the way forward for them.
“Dell looks like they want to be the last man standing in cloud infrastructure,”
R Ray Wang, founder at Constellation Research told TechCrunch that this new acquisition seems to be heading right in that direction. The cash flow from EMC is substantial and will help Dell immensely even though in recent years the revenue stream has not been leaping up for them which could very well be the reason we find them looking forward to the sale as well. The flexibility offered by being privately held will provide more breathing room to EMC as well as they find their footing among other more nimble competitors and startups.
The combined company aims to be a leading enterprise player in the following markets:
- Servers and Storage for the Enterprise Market
- Virtualization via VMware;
- Converged infrastructure (EMC owns VCE);
- Hybrid cloud and cloud computing
- And security via RSA, which is owned by EMC.
Jefferies analyst James Kisner, after some estimates, has predicted the combined company will have revenue between $74 billion and $76.5 billion. There are estimates that the combined companies will have 1 billion in synergies. However, the estimate from James is based on a partial VMware spin-off, which may be well on the cards. And this is what Dell may have to do to bring that huge debt back to a more manageable size. EMC is a giant company with their fingers in many pies and Dell might very well have to shed some of that extra weight to be streamlined as a company.
Tough Decisions Ahead For Dell
This is a massive investment and to lessen the burden of the enormous debt, some measures must be taken by Dell. While lay-offs are probably inevitable as a cost-cutting measure, to cover this enormous sum one can’t help but feel that we will see a fair amount of assets from both companies being sold off to recuperate some of that amount.
Some of the companies which we think may get the axe, include:
- Documentum, Captiva and the rest of the content management division are most likely to be sold off as they don’t match with Dell’s current offerings.
- Virtustream, the cloud management company EMC bought just last May for $1.2 billion.
- RSA, the security company EMC bought in 2006 for $1.2 billion, could also find themselves on the list although Dell might decide to retain the data protection and archiving pieces for their enterprise solutions.
The other big decision that Dell has on their hands right now is how to deal with Pivotal Lab. Spun off by EMC as a separate identity, they hold onto some innovative cloud and data technology that could give Dell and EMC the competitive edge in this cutthroat market.
Dell has bet big on EMC that their storage platform will be the way forward, but there are plenty of other competitors out there who are biting at the heels of the storage giants. While EMC certainly has a lot of data for contextual and cloud-based computing, what remains to be seen is if Dell can make complete use of it. No merger by itself is right or wrong but as Aija Leiponen, an associate professor at Cornell’s Dyson School of Applied Economics and Management puts it
“Many if not most mergers actually destroy value, and merging two companies that have had trouble renewing and reviving themselves rarely succeed when combined.
So here are some of the major hurdles in their path to profits for the two companies.
Competition with Hyperscale Cloud Providers
Competing with cloud storage providers like AWS, Google and Azure may prove to be a tough ask for traditional storage based EMC. Credit Suisse estimates that every dollar that goes to Amazon Web Services is $4 lost to traditional IT vendors, and that doesn’t bode well for Dell.
Most companies like HP and even eBay are now looking to break themselves into smaller businesses so that they can be more agile and respond quicker to market trends. In such a situation for a giant company like the Dell, the merger may lead to product arrivals being delayed due to lack of communication between the various teams across the giant organization. One of the main problems with EMC in recent years has been the federation approach, and it remains to be seen if the new acquisition can solve that.
Future of VMWare
VMware has till now enjoyed multiple partnerships with HP, Lenovo and has become the biggest influence in the virtual desktop environment. However, with Dell being a direct competitor to them in the server space what remains to be seen is if these partnerships continue once the merger has been completed.
Egon Durban, a managing partner at Silver Lake, has been quoted as saying that he believes that this merger will make the ultimate platform company. And as long as the investors seem happy, this deal has every chance of going through. However, we can’t help but feel skeptic abut the success of the new Dell. If the benefits of this mega-billion dollar deal lie in streamlining the business couldn’t EMC have done he spin-offs by themselves? In the end, the strategy behind the world’s largest tech deal has left us feeling slightly underwhelmed, confused and to some extent made us question if it is, in fact, redundant?