Fund manager says Dell board has no skin in the buyout game

SAM wants a shareholder list, possibly for a proxy fight to kill the deal

Dell chairman and CEO, Michael Dell

Southeastern Asset Management (SAM), the largest shareholder of Dell outside of the company's founder, Michael Dell, is complaining about the leveraged buyout deal that was announced a month ago. And the special committee of Dell's board members has fired back, saying that the deal is fair and so is the process that is being used to evaluate it.

SAM has an 8.4 per cent stake in Dell, the company, and it voiced its initial objections to the $24.4bn buyout a few days after the deal to take the company private was announced, explaining that its own evaluation of Dell's book value shows it to be worth at least $23.72 per share, or more like $42.4bn. The company's logic is reasonable, and it just goes to show you what El Reg said when SAM first started complaining: the value of something is not what you can calculate in a spreadsheet, but what someone is actually willing to pay.

No one knows (except SAM) what it paid for its Dell stake as it built it up over the past several years, but chunks of SAM's Dell stake that was acquired in recent months were just below the current deal price, so it is no surprise that SAM wants the deal price to go higher. It ain't going to make any money on the deal at these prices, and if it paid even more for Dell shares in the past, SAM may even lose dough.

In an amended 13D filing with the US Securities and Commission showing its stake, O. Mason Hawkins, a trustee and co-portfolio manager of the Longleaf Partners Fund that has pumped money into Dell (the company) embedded a letter to the Dell board reiterating its opposition to the proposed buyout. It expressed its "deep disappointment" with the board for its "failure to implement a transaction that would maximize shareholder value and be more beneficial to all shareholders."

Hawkins says that he was intrigued by the idea that Dell was not able to distribute some of its cash hoard to Dell shareholders because it was held overseas and subject to taxes, but this LBO deal includes repatriating some of this cash to mop up shares off Wall Street.

"The Board of Directors has placed the interests of management above those of public shareholders," Hawkins wrote. "Furthermore, it is unfortunate that the members of the Special Committee have such minimal stock ownership, which suggests that their interests may not be fully aligned with those of all shareholders."

Hawkins said that SAM strongly disagreed with the new financial segmentation that Dell instituted with its most recent quarterly financial results, which makes it hard to see that most of Dell's profits – and therefore its value – comes from outside of the faltering PC business. And Hawkins similarly disagrees with the decision by Dell's top management to not comment on the LBO during the financial call or since.

But what really has Hawkins upset is that not only does the Dell board not have a lot of the skin in the game, they seem content to let Michael Dell and Silver Lake Partners get all of Dell on the cheap with lots of potential upside when Dell turns around.

"While the Board of Directors characterizes the proposed transaction as a transfer of 'the risk of the business to the buyout group,' we believe it is more appropriately characterized as a transfer of 'the opportunity of the business to the buyout group.'"

Of course, as El Reg has already pointed out, Michael Dell does not have that much skin in this LBO game either. Dell, the man, has a private equity firm called MSD Capital that as around $12bn in assets and he is only putting up $500m in his own cash (not in MSD) and $250m in equity from MSD to do this deal, plus rolling over his 14 per cent stake in the company.

This amount of money is piddling compared to the wealth of Michael Dell. If he said he was going to take out a loan from several banks to do the LBO and use his MSD holdings as collateral and literally buy Dell, the company, himself, that would be different and would constitute putting all of his skin in the game.

But that is not what Dell, the man, did. He is spending the company cash pile plus a $2bn loan from Microsoft and $1.4bn in equity from Silver Lake to do the deal. The company's founder already had his stock in Dell, and he is really only risking $750m, and he gets to be CEO and chairman when the deal is done.

SAM's idea of loading up Dell with debt to distribute a big cash dividend to shareholders is about as self-serving as using Dell's current plan to use company cash to pay for the LBO.

Dell's special independent committee, set up to examine the LBO deal and its other options, should they arise, rose to the bait set out by Hawkins, but only a little. In a statement, the Dell board said it had, in fact, examined other alternatives to the LBO and decided this was the best deal. Here are the options it considered:

"The Special Committee, consisting solely of independent directors and working with our independent legal and financial advisors, undertook a rigorous process, over a period of more than five months, to evaluate Dell’s current risks, opportunities and strategic alternatives. The alternatives included continuing with or modifying the Company's existing business plan, conducting a leveraged recapitalization, changing the dividend policy, and potentially selling all or parts of the business."

What none of these people can seem to get their brains wrapped around is simple: A company is valuable in direct proportion to the good products it makes and the good people it employs to do so. Capitalists have this idea that companies exist to maximize shareholder value and profits, as if you could do that forever and not warp a company. Nothing in nature can grow forever, and for most businesses the best you can hope for is to do good business and sleep well at night having done so.

Dell could have a market capitalization of precisely zilch and still be valuable by this definition, and conversely, if it had a $200bn market capitalization and made crap products it would not be very valuable at all.

And again, about the best thing that might happen to Dell is that it ditch the PC business if it can't make money, befriend and Advanced Micro Devices that wants to make Opteron and ARM server chips, and build up a credible enterprise systems business, with lots of research and development.

But even that may not guarantee that anyone on Wall Street would be happy because that strategy might not lead to the kinds of profits that will get Dell's market cap back where everyone thinks it should be. Well, except the actual people buying and selling the stock, of course.

Maybe what Michael Dell really needs to do is stop listening to Wall Street, stop worrying about his legacy and his position on the Forbes billionaires list, and run the damned company with his name on it for the long haul. Like Michael Dell did when he was a kid, in fact.

If SAM wants the deal to die, then Hawkins had better gird his loins for a proxy battle instead of engaging in all this sabre rattling. In the SEC filing, SAM is asking for a complete list of shareholders, so maybe it is gearing up for the proxy fight to kill the deal.

And if SAM is so hot to trot for a better deal, then it should help Evercore Partners, which has been hired by Dell's board to find one by March 22, do so. The time for talk is over. ®

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