News Analysis: The Challenges of Taking Dell Private

Kimihiro Hoshino/Agence France-Presse — Getty ImagesMichael Dell, the chairman and chief executive of Dell.

By exploring the possibility of going private, Dell appears to hope that it can finally fix the problems that have led to a 40 percent plunge in stock price over the last five years.

There’s one problem, however: Going private may not be all that easy — or help out the company in the end.

The effort is under way, people briefed on the matter have confirmed to DealBook, with Dell talking with private equity firms and exploring obtaining bank financing. It’s unclear how long it will take to reach a completed deal, though reports have suggested it may take nearly two months.

But a leveraged buyout of a company as big as Dell would be no small feat, and it would be dependent on overcoming hurdles specific to the private equity industry and the company itself.

As of Friday, before Bloomberg News reported the discussions with private equity, the company was valued at about $18.9 billion, based on a stock price of $10.88. Applying a 31 percent takeover premium, which was the average paid for high technology L.B.O.’s last year, according to Thomson Reuters, to that number would lead to a potential deal being valued at about $24.8 billion.

Of course, Dell’s stock has gone up higher since, reaching $12.60 by early Tuesday afternoon.

Many private equity executives, and the advisers who clamor for their business, have been longing for the return of bigger buyouts. No private equity deal has come close to the deals struck during the height of the credit boom that ended in 2007; a Dell takeover would be the biggest since the $25 billion takeover of Hilton Hotels in July of 2007.

To date, no leveraged buyout since the financial crisis of 2008 has topped the $7.2 billion that Kohlberg Kravis Roberts and others paid for the Samson Investment Company a year and a half ago. And many advisers say that it’s hard to consider completing a deal above $10 billion.

Partially, that’s a matter of logistics. Leveraged buyouts require private equity firms to put some money down, in the form of an equity check totaling on average somewhere around 30 percent of the overall deal. The rest would come from financing from bank loans and junk bonds.

And over the last five years, private equity shops have been loath to partner together on “club deals.” Investors in these firms have complained that the practice essentially multiplies their exposure to a particular transaction. And L.B.O. firms aren’t fond of them because they essentially erase distinctions from competitors, potentially making it harder to persuade investors to give them money for new funds.

A company of Dell’s size would almost surely need more than one investor, because private equity firms are limited in the amount of equity that they can put into any single transaction.

And then there is the matter of debt financing. A Dell transaction is likely to require at least $16 billion from bank loans and junk-bond sales, a seemingly daunting amount.

That said, some deal makers think the money is there for the taking, pointing to the hunger of investors for debt that yields even a few percentage points more than Treasury bonds. The co-head of JPMorgan Chase‘s global debt capital markets, Jim Casey, told CNBC in October that his firm could raise $15 billion to $25 billion in noninvestment-grade debt for a single transaction.

Then there’s the matter of Dell itself. Helping would-be buyers is the fact that the company’s founder, Michael S. Dell, controls a nearly 16 percent stake. That’s represents at least $3 billion worth of stock that he could contribute to a deal.

And the company also had about $11.3 billion in cash and short-term investments on its balance sheet as of Nov. 2. That’s a big pile of money that could go toward paying off any debt taken on in an L.B.O.

But in its most recent annual report, Dell said that only about 10 percent to 20 percent of its cash pile was held in the United States, meaning the company would take a potentially big tax hit if it were to bring that money back onshore. Because of that, analysts at Goldman Sachs estimated in December that the return on an L.B.O. could be as low as 8 percent. Avoiding the tax man could bolster that return to 31 percent.

(That may less of a problem, according to the investor Wilbur L. Ross, who told CNBC on Tuesday that the company could sell eurodollar bonds, which may avoid incurring a steep tax charge.)

Dell also had almost $5 billion in long-term debt as of Nov. 2. That means the newly private company would be highly indebted, though analysts at the ISI Group and Mizuho point out that the company has respectable cash flow, generating about $3.7 billion in cash from operations during that time.

The bigger question for the company is whether going private would solve any of the issues it has faced for years. Its traditional business of making and selling personal computers has become less and less profitable, and Dell has already been trying to move into the more lucrative and stable market of providing hardware and software services for corporations. That’s not something that requires Dell to be private, however.

And there’s also the question of whether a newly private Dell, forced to spend much of its revenue on paying down its debt, would have money to invest in its business or pay for new acquisitions. (Last year alone, the company struck 10 deals, including the $2.4 billion purchase of Quest Software.)

Mr. Ross said on CNBC that he believed the chances of a deal coming together were about 50-50. But there’s still a lot of work and finagling that needs to be done to get to that point.

Ben Protess contributed reporting.

Article source: http://dealbook.nytimes.com/2013/01/15/the-challenges-of-taking-dell-private/?partner=rss&emc=rss