Dell Should be Worth at Least $23 Per Share

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Michael Dell, the Chairman and CEO of Dell (NASDAQ: DELL), is trying to take the company private for $13.65 per share, with a total transaction value of $24.4 billion. However, Dell’s largest outside shareholder, Southeastern Asset Management, has opposed the buyout deal publicly. Recently, Dell’s second largest outside shareholder, T. Rowe Price Associates, has also joined Southeastern in opposing the deal. Southeastern and T. Rowe Price own 8.5% and nearly 4.4% stakes in Dell, respectively. Both of the funds think that the buyout offer was too low. So what is Dell really worth?

Dell is Worth $23 Per Share With Preferred Stock Distribution

As of October 2012, Dell had nearly $10.2 billion in equity, $11.3 billion in cash, $2.9 billion in long term investments and $9 billion in both short and long-term debt. With 1.74 billion shares outstanding, Dell’s net cash per share was around $3. Analysts expected Dell to earn around $1.67 per share in fiscal year 2014. With the current trading price of $13.80 per share, Dell is valued at around 6.5x forward earnings, net of cash. If we apply David Einhorn’s creative idea of preferred stock distribution to Dell, Dell could issue up to $25 billion, or $14.40 per share in face value of preferred stocks. The value to common equity would be around $5.98 per share at that time. Thus, the potential value of Dell should be the net cash ($3) plus the value to common equity ($5.98) plus the preferred stocks’ face value ($14.40), equals $23.38 per share, a 69.5% premium to the current trading price. 

Southeastern’s “Sum of All Parts” Valuation

In the recent letter to Dell’s Board of Directors, Southeastern has shown that Dell should be worth around $23.72 per share. After deducting structured debt in Dell Financial Services (DFS), Dell’s net cash per share was $3.64. In addition, the book value of DFS was $1.72 per share. Southeastern stated that Michael Dell had used $13.7 billion, or $7.58 per share for acquisitions. With no impairment charge, Southeastern valued Dell’s previous acquisitions at their costs.

In terms of operating segments, Dell’s business was divided into four main segments including Server Business, Support and Deployment, PC Business and Software and Peripherals. As Dell was one of the big companies in X86 players serving “hyperscale” customers, Southeastern thought the Server Business was worth around $8 billion, or $4.44 per share. In addition, Dell’s support and deployment activities were expected to generate at least $1 billion in operating income. With 7x earnings multiples, this segment could be worth at least $7 billion, or $3.89 per share. With the expectation of $1.3 billion in operating profit, the PC Business could be worth $5 billion, or $2.78 per share. The Software and Peripherals might be worth at least $3 billion, or $1.67 per share. Afterwards, Southeastern subtracted $1 per share in unallocated expenses and another $1 per share in "DFS value embedded in segments." That works out to $23.72 per share.


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Source: Southeastern’s letter to Dell’s Board of Directors

Peer Comparison

At the current trading price, Dell is valued at 2.4x book value and 4.9x EV/EBITDA while Microsoft (NASDAQ: MSFT) has a more expensive valuation at 6.22x EV/EBITDA. Microsoft had a huge net cash balance of $64.8 billion, or $7.70 per share. According to Einhorn, Microsoft’s potential value could also be unlocked via preferred stock distribution. With the expected EPS of $2.85 in 2013, Microsoft could issue up to $155 billion, or $18.35 per share face value of preferred stocks. Using the similar calculation, I think Microsoft should be worth nearly $40 per share.

Hewlett Packard (NYSE: HPQ) is valued the cheapest among the three, at 3.44x EV/EBITDA. Both HP and Dell are considered the victims of the overall decline in global PC sales. HP was hit much harder, due to the recent $8.8 billion impairment charge on its Autonomy acquisition. After the huge write-down, HP’s goodwill and intangible asset is still a huge number, $35.5 billion, or 5.5% higher than its current total market capitalization. 

Foolish Takeaway

Indeed, a $13.65 per share offer is quite cheap compared to the “sum of all parts” valuation. If Dell followed David Einhorn’s idea to distribute preferred stock to shareholders at not cost, the shareholders’ value would be unlocked and Dell’s share price might reach $23 per share. 

hoangquocanh has no position in any stocks mentioned. The Motley Fool owns shares of Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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