Case Study on Dell

Least Resisitance

Dell Case Study

Stop the presses! Before reading Longleaf’s valuation of Dell (linked below), go to the 2009 and 2013 Value-lines and value Dell with a back of the envelope calculation using a post-tax free cash flow yield as one signpost.

What do you think Dell is worth—about?  What do you think of the valuations mentioned in this article? Does growth have value? Why or why not?

Do you have any criticisms?  What in Michael Dell’s prior history makes you (perhaps) not surprised by his current actions? Would you have factored that into your pre-announcement valuation?  How?  Should Dell offer to do a Tender Offer for the shareholders?  If the price callapsed to $9 or $10 based on the deal being pulled what would you do?

Case Study Materials: Dell_VL_2009     Dell_VL_2013   Dell_Valuation_and_Tender_Offer_Case Study

Longleaf Protests: Dell-Board-Letter_by_Longleaf

DELL_Morn: Background on Dell

I will put in my two cents next week in the comments section.  Email prizes awarded.

Update Feb. 11, 2013: Corporate BS:


Common Sense Words about America (not political)

 See what independent thinking, love of history and knowledge plus GUTS can do…..

The Actual Speech:

13 responses to “Case Study on Dell

  1. I love this case study. Thanks John.

    • Well, the case study depends upon how hard you work on it. Do your own work, then compare and contrast your val. with what the fund managers are saying vs. what common sense tells you.

      Ask yourself, why was the market pricing Dell where it has been the past three years. Note the performance of Dell’s RELATIVE stock price in the VL tear sheet to the overall market. You have to respect the Wisdom of crowds. The onus is on you to prove the market wrong.

  2. Morningstar’s “fair value” estimate of 12% FCF yield is absurd — in this interest rate environment? For a growing coupon? While we’re at it, that’s like 18% PRE-tax. This is an example of an analyst confusing “price” with “value.”

    I’m not involved in the stock, but Hawkins’ letter is highly compelling. If either (A) the LBO is not approved and the stock drops back into the single digits, or (B) the LBO is approved but CVR’s are issued, this would be an extremely interesting investment.

    Naturally all of the above this is predicated on my belief that the PC is not dead….

  3. Hey John, just looking for a little help on the back of the envelope math. I’m new so bear with me. I took $1.75 cash flow per share with 7% growth for 10 years and summed the total, then multiplied it by .88 (12% DC) and got a price of $21.27. Am i on the right track or what should I have done. I see that the other investors had target prices of $24 or 25.
    Thanks for all the lessons. Common sense tells me that Mr. Dell wouldn’t be buying if he didn’t think he was going to turn his money into even more money.

  4. My back of envelope calculation suggest fund managers are right. I think this deal go through because execs get to keep their jobs. Who cares if Michael Dell gets to stuff $24 billion of outside investors money in is bank account as long as I get to keep my job? Is what management saying. I think Dell has poor corporate governance. Directors are either previously employed by dell or are on at least three other boards

  5. The book value has grown by 13% over past few years. Using 2012 book value at $5.06 (and the buffet books calculator for back of the envelope valuation), it puts the company’s intrinsic value out somewhere in the $14 range. VL suggests a book value growth of 17.9% over the next few years. That puts the intrinsic value in the $20s.

    (After reading article) Current offer gives no respect to intrinsic value on a company with $3.00 in cash per share and an operating business that Dell sees producing substantial revenues in near future.

    These guys are getting $20 for $13.65 ($3.00 in cash and an operating business for $10.65). Good deal for the private equity/Dell, bad for everyone else.

  6. I will post my comments in a day or so. Note update and link.

  7. Great take on Dell from Cove Street Capital “The Worst Piece of Corporate BS” here.

  8. This is interesting. I was looking at Dell about a month ago and wondering why it needed to be a public company at all. They don’t need to access markets, presumably the only reason would be to comp shares to employees, but being how much the market hates Dell I couldn’t see that being a draw to a tech employee.

    I think Michael Dell is probably getting a deal and we know he thinks so or he wouldn’t be doing this. That said, I don’t get to numbers quite as high as $24 for Dell. I don’t particularly care for the stated FCF/sh numbers that VL has, so I’ll approach this another way. The goodwill hasn’t been impaired, but that doesn’t mean these businesses are worth the $7.50+ they paid, as Longleaf says. I actually view the money spent on these acquisitions as an expense, a form of R&D that they’ve effectively capitalized and put on their balance sheet. So instead of it flowing through the income statement as an expense and coming out of operating CF, it shows up in CFI below capex, at the very least you have to subtract them from CFO to get FCF. So the FCF profile gets distorted by that, it also gets distorted by the negative working capital, which I believe is a function of the PC business collecting from customers there before Dell pays its suppliers. As the PC business declines, FCF from that will shrink and I don’t know how to think about FCF going forward because I don’t know the magnitude of decline, I also don’t know the magnitude of M&A spend, which I view as a form of capex. I’d add that net cash is also lower than $3.64/sh because a lot of it needs to be re-patriated. I’ll take them at their word on DFS’s valuation. So I don’t know what the right valuation is, but I don’t get to $12.94 before getting to the businesses. Maybe I get to $8ish. I won’t quibble with Longleaf’s sum of the parts valuation on the other businesses, as they seem reasonable to me, but they do come with a wide cone of potential valuations and I don’t think the higher valuations get fully realized without actually breaking up the company, but still giving them credit for that, I get to maybe $18-$19. It’s still a deal for Michael Dell, but one with a lot of risk and potential failure. I guess what I’m getting at is that valuing Dell is hard, because the future is so uncertain and the changes they have to make so dramatic. They have to morph into services companies via M&A and I don’t know if there’s a reason to believe that Dell is capable of this. I also don’t know if most investors want to be along for this ride, so its probably better done privately. How much of the value should public shareholders get to avoid a journey they don’t really want to go on? I don’t really know. $13.65 is a decent jumping off point. In the end, I wonder if they wind up raising the bid a few dollars in order to just get it done.

  9. Longleaf’s sum of parts valuation numbers are very compelling and when taken against the Dell offer, it seems good for Michael Dell, and bad for shareholders. As management, he has a fiduciary responsibility to shareholders, but at the same time he is also leading the buyers group, therefore wanting to pay as low of price as possible. At the very least, Dell did hire Evercore to shop for another buyer and their fees are attached to finding another buyer. As for the other investment banks like JPM that are assisting the buyers in determining a valuation, I couldn’t imagine that they are unbiased as there are so many fees that could be earned by getting this deal done. They would most likely produce a “defensible valuation” but not necessarily one that reflects true earning power.

    Of the $24 billion in the offer is 15 billion of debt. Dell’s CFO claims the 2.7 billion acquisition bender has returned IRR’s of 15% and Longleaf pegs the market value at $24. I watched Dell for a long time, but could never become comfortable enough with the predictability (or lack thereof) of the business going forward, even though value guys like Longleaf continued to pound the table. I felt that Dell had a touch too much of uncertainty in its line of business to avoid becoming a melting ice cube. Were earnings growing organically and reflecting legitimate market share gains in a constantly evolving landscape of something like servers and cloud computing? Or were 2011 & 2012’s record EPS the result of even faster share buybacks?

    It’s easy for me to sit here and Monday morning quarterback this stock, but I did avoid it for the simple reason that I could not tell you where the business would be in 5 years from a market share and economic moat view point. I think that is also part of the reason why the market never rewarded Dell’s stock price.

    I think common sense tells us that we can’t be a buyer and a seller simultaneously (Michael Dell) and get the best possible price for both sides, so it appears that Michael Dell will get a reasonable bargain at the expense of shareholders.

  10. I tried NOT to read any replies here so as to not prejudice my next post on Dell. Prizes will be emailed late Saturday. Thanks.

  11. Pingback: Dell Inc: Not So Fast Mr. Dell | Enterprising Investor

  12. John, thanks for a fun case study.

    I would require a 10% cash flow yield on my investment. Using single point valuations, this would estimate the intrinsic value of Dell at $16.70 per share in 2008 and $25.10 per share in 2011. This assumes no growth in the cash flow for the company. If 3% annualized growth is assumed, then the 2008 value would be $23.90 per share and the 2011 value would be $35.90. Using the average and median cash flow per share from 2007 to 2011 as normalized cash flow, the intrinsic value comes in at $17.30 to $17.90 per share.

    I can get to a higher intrinsic value if I assume 3% cash flow growth into perpetuity but I have a hard time justifying that. Dell’s cash flow has been pretty lumpy and stagnant since 2007 and the future of PC sales is looking overly mature for much growth so I would be reluctant to bake growth into my valuation without more investigation on the future of the company’s other business segments.

    More details are available at my blog post:

Leave a Reply

Your email address will not be published. Required fields are marked *