A Dell Buyout Offer? Maybe If They Offer a Discount

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The Wall Street rumor mill produced another doozy recently when Bloomberg news reported that Dell (NASDAQ: DELL) might be the target of a buyout by a couple of private equity firms.  The stock price swelled to $12.83 before falling back to close at $12.29 a share, a gain of just under 13 percent.  The report also sent shares of competitor Hewlett-Packard (NYSE: HPQ) higher as well, as their stock closed at $16.95, a gain of almost 5 percent.

Based in part on its closing price,  Dell's enterprise value is roughly $16.82 billion. That's a lot of dough for a struggling PC company. It equals about $9.65 a share, but that's for the entire firm. The debt, with a recent market value of $6.4 billion,  makes up about 38 percent of the firms enterprise value, leaving equity holders holding nothing more than laptop bag with a few greenbacks in it. 

Luckily for equity holders potential suitors typically show up at the door with more than a corsage.  According to Thomson Reuters, last year the average takeover premium across all industries was 30 percent, slightly below the average for high technology L.B.O.'s in 2012. Offering a 30 percent premium over the company's current enterprise value for a stock already trading at a 33 percent premium would be gratuitous indeed, considering the holiday season has already passed. Actually, it would take the price to about $12.54 per share, within the range the stock traded in yesterday. 

Competitor Hewlett-Packard has an enterprise value based on today's closing stock price of a whopping $50.4 billion, which translates into roughly $25.66 per share.  At least HP shares are still trading at a discount to its EV. However. the company's debt alone has a market value of $28.4 billion, which accounts for nearly 56 percent of its enterprise value.

Enterprise value is a market based valuation that represents total company value. It's calculated as follows:

Enterprise value = (Share Price * Shares Outstanding) + Market Value of Debt - Cash & Investments

At this very moment I'm sure you are thinking, why is cash deducted? It's deducted because it reduces the cost of the acquisition. After the acquiring company buys out all equity and debt holders they receive access to the cash & investments. As enterprise value is a market based valuation, the product of the stock price and number of shares outstanding usually make up the lions share of the valuation. Given that Hewlett-Packard has both a higher stock price and a greater number of shares outstanding it would naturally follow that it would have a larger enterprise value.

Based on the fact that Dell's stock price already exceeds its enterprise value on a per share basis this is not a deal that makes a lot of sense unless there were a lot of synergies that could be created.  This is not a likely scenario, unless its part of a larger exit strategy for the private equity companies involved in the preliminary discussions.

Before you run out to scalp a few Dell shares make sure you are not paying a premium when perhaps you should ask for a discount.


Neither The Mays Report or G C Mays has a position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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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