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2:21 pm
Apr 30, 2013
Deals
Dealpolitik: Bridging the Dell Divide
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Dell is a tale of two companies. Dissident shareholders including
Southeastern Asset Management and Carl Icahn believe Dell shareholders
should have an opportunity to hold on to at least some Dell stock. They may
not quite think it is the best of times for Dell, but they are concerned
that the cash-out sale to
Michael Dell
and Silver Lake will deprive them of substantial upside as operations
improve in the future.
From
the perspective of the special committee of Dell, it appears to be the worst
of times for Dell, and shareholders would be best off taking the$13.65 per
share in cash offered by Silver Lake the company’s CEO and run before things
get worse. The special committee apparently thinks Dell is broken in several
significant ways. It has been largely vindicated in its view that management
does not have a good handle on the numbers. When Blackstone left the scene,
it pointed to Dell’s cutting its operating income projection for this year
by 19%.
But
the inability to forecast the declining results is just the tip of the
iceberg for the Dell special committee’s concerns about Dell. Take a look at
the factors
the special committee considered relating to Dell’s business in determining
to approve the Silver Lake deal.
They
consist of almost four pages of bullet points listing business problems for
Dell. They range from the fundamental changes in the PC market to “the risks
and challenges inherent in executing the Company’s long-term business
strategy” to “the Company’s slow progress to date in implementing changes
needed to execute” its strategy “and the Special Committee’s uncertainty as
to the Company’s ability to fully execute this strategy.…”
The
Dell stock dipped below $9 in November, before rumors of the buyout surfaced
and the special committee is probably worried that shareholders could be in
for a rude awakening if they turn down the Silver Lake deal.
Dell
shareholders are thus faced with a stark contrast in views as to what they
should do about the deal. If they buy the Southeastern view of the world
they should probably vote down the deal and perhaps insist on a standalone
recapitalization or Icahn’s proposed transaction which would give them cash
for some of their shares and while still allowing them to retain a
substantial equity interest in a more leveraged Dell. The special committee
says vote yes because that is the best solution to what seems to appear to
them to be a broken company.
Is
there any way to bridge this gap? There might be. What Southeastern and
Icahn have said is that they want is shares in the continuing corporation.
But Michael Dell has said that he thinks Dell’s problems can best be
addressed with Dell as a private company without the need to report
financial results quarterly. And the experience of Mr. Dell and Silver Lake
so far on the transaction in terms of having to deal with an independent
committee and complex procedures used to protect minority shareholders
probably has made them even more convinced that if the deal goes forward
they want to end dealing with Dell as a public company.
But
if shares of Dell are issued in the deal to the public (or remain
outstanding), Dell would almost certainly continue as a reporting company.
However, there is one mechanism that could be used to address the
Southeastern and Icahn concerns which might be able to be structured so as
not to require continued public company reporting.
Silver Lake and Mr. Dell could incorporate a “contingent value right” or CVR
into the consideration shareholders receive. A CVR is just a fancy name for
the right to receive additional consideration down the road if certain
things happen. For example, if in the next several years Dell were sold, a
significant dividend were paid or there were a public offering and the
amounts involved exceeded specified thresholds, the CVR could provide that
former Dell shareholders would receive an additional payment.
The
SEC has said under certain circumstances CVRs will not be treated as a
security and therefore burdensome disclosure requirements can be avoided. If
the CVR qualifies for this treatment, there should be a strong argument that
Dell would not be subject to the normal public company disclosure
requirements merely because of the CVR.
However, in order to qualify for this treatment the CVR would need to meet
certain criteria, including that it be non-transferable. In some
interpretations issued by the SEC, it has also indicated that the CVR cannot
be dependent on the operating results of the target company.
If
Silver Lake were to offer a CVR, the thresholds which would trigger a
payment could be set at a level which would not interfere with normal LBO
equity returns, but still provide Dell shareholders with reassurance that if
Mr. Dell and Silver Lake hit a home run with the deal Dell former
shareholders could participate in some of the upside.
Although CVRs are not common, they have been used to bridge gaps in value,
particularly in the pharmaceutical industry where there can be significant
uncertainty as to the prospects for a drug in development. The most
prominent recent use was in 2011 to resolve Sanofi’s months long hostile
takeover battle to buy Genzyme, where ultimately Sanofi paid $74 per share
in cash and a CVR providing for payment of up to an additional $14 based on
whether specified drugs met certain milestones. Those CVRs trade on an
exchange and currently have a market price of about $1.70. A
non-transferable CVR was used in the 2011 acquisition of Clinical Data by
Forest Laboratories for $30 per share plus a CVR worth up to $6 based on
a drug’s performance over a seven year period.
None
of the parties has yet publicly broached the idea that a CVR would satisfy
its concerns. Indeed it is possible with the bad news Blackstone has
highlighted,
Silver Lake may be interested in paying less, not more, for Dell. And
don’t expect Silver Lake to be putting any more consideration on the table
unless it thinks it won’t receive the vote at the shareholder meeting.
But
if the players in the Dell buyout wanted to do a deal, a CVR might be a way
to bridge the divide and accommodate the concerns of everyone.
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