Strubel Investment Management, LLC
1853 William Penn Way
Lancaster, PA 17601
February 13, 2013
Board of Directors
One Dell Way
Round Rock, TX 78682
Attention: Lawrence P. Tu, Senior Vice President, General Counsel, and Secretary
Dear Board of Directors:
Strubel Investment Management, LLC, is a shareholder of Dell Inc. (DELL) (or "the Company") and provides advisory services to clients who also are shareholders of the Company. We are writing to express our extreme dissatisfaction with the proposed go-private transaction, which we believe grossly undervalues the Company. We are also writing to inform you that we will vote against the proposed transaction and advise our clients who are shareholders in the Company to vote against the proposal as well.
The basic function of a board is to oversee management, to hold it accountable, and ensure all shareholders are treated equitably. We believe the board has failed this duty in a dramatic fashion. By allowing such a transaction to take place at a price of $13.65, the board is essentially allowing Mr. Michael Dell to steal the Company from current shareholders. We believe the intrinsic value of the Company is far greater than $13.65 per share. Specifically, the following supports our valuation analysis:
Strubel Investment Management believes that a straightforward valuation of the non-PC portion of the Company together with the net cash on the balance sheet yields a valuation that vastly exceeds the $13.65 per share offer. This is before even taking into account the value of the PC business which we believe is in secular decline.
The Company has astutely realized that the PC business is unattractive and in secular decline. Starting in earnest in 2007 when Michael Dell resumed his role as CEO, the Company has embarked on a multiyear plan to transition Dell from a commodity PC company to an end-to-end computing solutions provider focused on small and medium sized businesses. The Company has spent more than $13.7 billion on acquisitions to build out this line of business.
The Company has frequently touted the success of these acquisitions and has not taken or discussed the possibility of taking any write downs on any of the acquisitions. Indeed, at the June 2012 analyst day, Brian Gladden, Dell's CFO, said that in aggregate the acquisitions have generated an internal rate of return of 15%.Therefore we have no reason to assume that this portion of Dell is not successful and healthy.
In our valuation of Dell, we will focus solely on the non-PC portion of the business.
Cost of goods sold
Interest expense and other5
Provision for income taxes6
Adjustment for continued acquisitions7
Pro forma net income
Net income multiple8
Value of Dell non-PC business
Value of Dell PC business
Add: Cash and investments
Less: Short term debt
Less: Long term debt
Add: DFS financing debt (included in DFS segment)9
Add: Book value of DFS10
The value of just the 'new' Dell greatly exceeds the offered price of the go-private transaction.
We also note that your largest outside shareholder, Southeastern Asset Management, Inc., sent you a letter dated February 8, 2013, in which they outlined similar concerns over the inadequacy of the current go-private transaction. In that letter, Southeastern also estimated, employing a different valuation methodology, the intrinsic value of the Company in excess of $23 per share. There are now two shareholders that have presented two different simple, straight forward valuations of the Company that show its value far in excess of $13.65.
In summary, the evidence that the go-private transaction as currently structured is woefully inadequate is overwhelming.
We are at a loss as to how the board could see fit to believe the Company is fairly valued at only $13.65 per share. Indeed, as of November 2012, the Company has spent $700 million repurchasing 46 million shares at an average price of $15.21 and has been repurchasing shares at an average price of $17.65 per share as recently as May 2012. If less than one year ago the Company and the board believed that repurchasing shares at a price as high as $17.65 was in the best interest of shareholders and that the Company was worth $17.65 per share or more, then why does the board now believe the intrinsic value of the Company is $13.65 or less and that the current go-private transaction is in the best interest of shareholders?
We are also unable to comprehend the board and management's rationalization that the Company is best served by being taken private. The only explanations given in regards to the rationale behind the go-private transactions have been statements by Mr. Dell in the press release dated Feb. 5, 2013, and an interview the current CFO Mr. Gladden gave to Reuters on Feb. 5, 2013.
In the press release Mr. Dell states:
we continue the execution of our long-term strategy and focus on delivering best-in-class solutions to our customers as a private enterprise. Dell has made solid progress executing this strategy over the past four years, but we recognize that it will still take more time, investment and patience, and I believe our efforts will be better supported by partnering with Silver Lake in our shared vision.
Reuters quotes Mr. Gladden as stating:
Under a new private company structure, we will have time and flexibility to really pursue and realize the end-to-end solutions strategy. We will be able to pursue organic and inorganic investment and we won't have the scrutiny and limitations associated with operating as a public company.
So we are generally very, very encouraged by the future here.
Without having really the scrutiny that is associated with a publicly traded stock, we can make the necessary investment and stick to plan, in some cases be more aggressive than we can today.
Reuters also attributes the following to Mr. Gladden:
Dell Chief Financial Officer Brian Gladden told Reuters in an interview on Tuesday that the company can now pursue its strategy without being limited by the pressures of public ownership.
Gladden acknowledged that the turnaround will take more time and investment, which the company plans to make as a private enterprise that will have less emphasis on quarter-to-quarter progress.
It appears, based on quotes given by management, that the sole rationale for taking the Company private is that Mr. Dell and Mr. Gladden do not like running a public company. Beyond empty platitudes and ephemeral references to creating the holy grail of modern finance, "stockholder value," it appears that management and the board are unable to clearly identify how the go-private transaction is beneficial to current shareholders.
We note Mr. Dell and Mr. Gladden received $16,138,498 and $8,177,566 in total compensation during the Company's 2012 fiscal year. Surely Mr. Dell and Mr. Gladden, making 474 and 240 times the average worker's salary11 respectively, are paid handsomely enough to cope with the extra scrutiny that comes with running a public company. We roundly reject the notion that Mr. Dell and Mr. Gladden are unable to function to their true potential due to running a public rather than private company.
If the Company finds the quarter-to-quarter focus of "Wall Street" to be such a burden to management as to affect their ability to run the Company, then we suggest they follow the Berkshire Hathaway Inc. model and cease issuing guidance and cease holding quarterly conference calls.
Additionally, we find absurd the notion that going private will allow the Company to better execute its long-term strategy. As the Company's current strategy of transitioning to an end-to-end enterprise IT solutions provider is not dependent on continued access to equity markets, the quarter-to-quarter stock price fluctuations and the pontifications of Wall Street "analysts" are irrelevant to the Company and its ability to create significant value for shareholders in the future.
We are baffled by the reasons management has given in its attempt to justify the go-private proposal. We are also equally astonished that the board apparently concurs that the current course of action represents the best option for all shareholders.
Again, we refer to the Feb. 8, 2013, letter sent by your largest outside shareholder, Southeastern Asset Management, Inc. In that letter, they proposed several alternatives to the current go-private transaction, including a dividend recapitalization plan. We have reviewed the Southeastern proposal and believe it is a far superior option for creating value for shareholders in the near term. We intend to fully support Southeastern's effort to block the current go-private transaction and will support Southeastern should they attempt to implement their alternate proposal at a later date.
In closing, we remind the board that they have a fiduciary duty to ensure all shareholders are treated fairly and equitably. Let the fools sell their shares of the company low, but do not force every shareholder to be a fool.
As a shareholder, we also respectfully request an explanation as to why the board and management considered Company shares undervalued at average prices of $17.65 less than one year ago when they authorized a share repurchase plan and repurchased shares respectively and why they now consider Company shares to be fully valued at $13.65.
/s/ Benjamin J. Strubel
Benjamin J. Strubel
President and Portfolio Manager
1 1,736,000,000 shares outstanding as of Nov. 2,2012.
2 TTM revenue of Servers & Networking, Services, and Dell owned IP Storage segments.
3 Based on company statements that over half of gross margin is from non PC sources.
4 Based on TTM operating expense ratio.
5 TTM interest expense and other expenses.
6 Based on three-year average historical tax rate of 22.73%.
7 Based on 50% of five-year average historical acquisition spending. Dell spends much less than competitors on R&D and continued acquisitions and/or increased R&D spending will be needed to maintain 8 Current 12-month P/E ratio of Dell's self-selected "close comparables" peer group.
9 DFS financing costs included in DFS segment.
10 $3.1 billion book value of DFS based on receivables less financing costs.
11 Bureau of Labor Statistics average worker wage in 2011 of $34,053.
Disclosure: I am long DELL.