Dell + EMC, Solidifying Dell as a Private Equity Player

There’s quite a buzz about Dell’s offer for EMC today, worth $67 billion. A lot of the media focus has been on the sheer size of the deal or comparing the combination to competitors. That misses the point.

Dell & EMC are declining businesses

This much is well known, and a big part of the rationale behind Dell going private 2 years ago. Combining two declining businesses with poor demand outlooks might seem crazy, synergies or no — so why, then?

The Crown Jewel

This acquisition gives Dell control of VMware, a large provider of virtualization software, an important component of any cloud offering.

Dell & EMC are racing to catch up with cloud providers like Amazon Web Services that are offering options that lead enterprises away from managing their own infrastructure — hardware & services they may have been purchasing from Dell or EMC otherwise.

The terms of the acquisition haven’t been filed as of writing this, but if you read between the lines it’s pretty clear. The press release says that VMware will continue as an “independent, publicly-traded company”, but that’s a little misleading.

As part of cash consideration to EMC shareholders, Dell is offering “tracking stock” that should match the value of EMC’s current ownership of VMware. Like how an ETF tracks the value of its portfolio. The catch is that the tracking stock is a separate security and often holds no voting rights. Further, the press release notes that the tracking stock is “linked to a portion” of EMC’s holdings in VMware. This likely means the Dell consortium is withholding an ownership stake for itself. Taken together, EMC shareholders simply take part in any potential economic upside.

Dell is now a Private Equity player

Or at least it’s behaving as such.

If this is the fine print when it’s filed, you can assume Dell is mostly interested in VMware’s IP and ensuring it forms the basis for its cloud efforts. It also leaves the door open for taking VMware private in the near future.

What is clear, though, is that Dell will use EMC as a source of cashflow to deleverage (reduce it’s debt burden). Since Dell’s privatization was a leveraged buyout and the acquisition of EMC will involve debt, EMC will most certainly be used like any other private equity deal: take on debt to acquire an asset then use that asset to pay off the debt. Cut the fat, spin-off divisions that don’t add value, and continue eating the software services space until you can catch up with the likes of Amazon and other cloud providers building their own hardware and infrastructure.

It’s not going to be easy.