Dell – Greed and fear

I see the possibility that the whole deal collapses.  

• Some investors seem to think that they have a right to benefit in the potential upside in Dell without taking any of the risk.
• Some of the existing shareholders are complaining that the valuation at $13.65 a share deal is too low and are holding out for something like $15-$17 a share.
• In their defence, it is their duty to maximise the return that they earn for their stakeholders but frankly, their arguments have no merit.
• Dell has been trading very low valuations for a reason. It is at a strategic dead end.
• It has lost its core competence; its end market is, at best, in a steady state long term and its software and services strategy is still born.
• To turn this around something drastic has to happen. I outlined the two options that I see here.
• That drastic action involves risk and could easily blow up in the face of whoever owns the company at that time.
• For example, if Dell (as a public company) was to announce a huge increase in R&D and a subsequent fall earnings and cash flow for at least two years, I believe the shares would fall hard.
• This indicates that the market would assume that the strategy fails and simply serves to hasten the company’s decline.
• On that basis I do not believe that the shares are undervalued.
• At yesterday’s close of $13.79, Dell was trading at 8.1x 2013 PER and 0.4x 2013 EV / Sales.
• HPQ which is in a similar or worse pickle than Dell is on 5.1x 2013 PER and 2013 0.5x EV / Sales.
• Apple (ex-cash) is on 7.2x 2013 PER and 1.8x EV / Sales.
• Dell does not look cheap even at this price.
• This is especially the case, if you assume that the company simply chugs along with the PC market and makes no real strategic change.
• Dell is cheap, only if one assumes that there is a recovery somewhere down the line and it is clear that that is not going to happen without a highly risky strategic shift.
• The danger for existing shareholders is that they force a price that diminishes the return for those willing to take that risk and as a result they back out.
• At that point, one would see the price quickly return to trade in line with HPQ with existing shareholders taking a rapid 30% hit.
• Greed and fear remain as alive and well today as they have ever been.