Without New Input From BCG, Dell Shareholders Should Vote No

As of this writing, Michael Dell and Silver Lake Partners have offered to raise their bid for Dell Inc. (DELL) by a dime to $13.75, provided that the Board's Special Committee agrees to change the rules so that non-votes are excluded from the final tally. The consensus seems to be that if non-votes are excluded, a majority of voting shareholders will vote in favor of the LBO. If the non-votes are not excluded, the LBO will probably fail. The Special Committee has not said yet whether it will agree to Mr. Dell's revised offer. It is therefore likely that behind-the-scenes negotiations are ongoing.

Mr. Dell raises a valid point about the non-votes: It seems unfair to count all of them as voting against the merger. Certainly, a large percentage would probably vote in favor of the merger, if forced to do so.

Nevertheless, it is also surprising that Mr. Dell and his financial advisors did not recognize this as a potential problem. True, they may not have envisioned that someone like Carl Icahn would become involved and create what Mr. Dell has called a "blocking position." However, it is not shocking that the Go Shop process would attract arbitrage and activist investors.

If the voting process is unfair, it should be changed, regardless of what Mr. Dell bids. At the same time, if the company is worth $13.75 to the LBO buyers, then that should be their bid, whether or not the rules are changed. In my view, Mr. Dell would have been better served by raising his bid to $13.75 unconditionally and then lobbying the Special Committee aggressively (and perhaps publicly) to change the rules.

Whether the bid is $13.75 or $13.65, I would advise those investors who are willing to tolerate downside volatility in Dell's stock price to vote against the LBO proposal. The projections provided by the Boston Consulting Group argue for a higher price. The Board and Mr. Dell both point out that the company's performance has been tracking well below BCG's projections, but Dell's performance will likely improve, if the global economy continues to rebound. BCG has been a consultant to Mr. Dell and his company for quite some time and has more than just a rudimentary understanding of its current business position. Presumably, BCG's projections reflect some understanding of the level of financial performance that is realistically achievable.

If BCG's projections prove true, Mr. Dell and Silver Lake stand to earn a significant return on their investment. Evercore Partners, the advisor to the Special Committee, has pegged that potential annualized return at 41%. (At the same time, it should be noted that Evercore has said that the $13.65 bid is fair to Dell's shareholders.) Yet, if BCG is correct, Mr. Dell and Silver Lake can bid more and still earn acceptable returns by private equity standards. In that case, a bid of $14.00 per share or even $15.00 per share would also be fair to Dell shareholders.

It is somewhat surprising that Mr. Dell has not explored having Mr. Icahn (or other large shareholders) join the LBO, since that would give the expanded LBO buyout group the means to raise the bid for the remaining outstanding shares without having to borrow any more money. It is possible that Mr. Dell did talk to Mr. Icahn about this or even that negotiations are still ongoing, but I am not aware of any news reports that suggest that this possibility is even under consideration. It is also possible that Mr. Icahn is not interested in pursuing this option.

In my view, Mr. Dell has not made a convincing case for why his $13.65 bid is fair, in light of BCG's projections. While it is possible that he is making such a case in his discussions with Dell's large shareholders, I do not think that shareholders should accept Mr. Dell's bid until that case is made or unless BCG revises its projections.

Otherwise, as long as they can stomach the potential volatility, I think that Dell shareholders would be better off voting down the LBO. As long as the global economy does not suffer a relapse, I think that there is a good chance that with the restructuring envisioned by Mr. Dell's management team and an eventual improvement in the enterprise and consumer markets, Dell shares will trade meaningfully above the $13.75 level within the next couple of years. Based upon its projections, I think that BCG would agree with me.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.