Dell’s discounted divestiture

Contact: Brenon Daly

Continuing its efforts to slim down before it gets massively bigger, Dell has announced plans to divest its software business to a buyout group led by Francisco Partners. The sale essentially unwinds Dell’s previous acquisitions of Quest Software and SonicWALL, which cost the company some $3.5bn. Although terms weren’t revealed, we understand that Dell will pocket $2.2bn from the deal.

The discount divestiture of the Dell Software Group (DSG), which generated some $1.3bn in trailing sales, comes less than three months after the company likewise sold its IT services unit, Perot Systems, for less than it originally paid. Dell’s portfolio pruning serves two purposes as it prepares to close its pending $63.1bn purchase of EMC. Divesting the software unit will not only raise some much-needed cash for Dell to cover the largest-ever tech acquisition, but will also clear out some software offerings that would overlap with the assets it is set to pick up from EMC/VMware, notably in the identity and IT management markets. EMC shareholders are set to vote on the sale to Dell next month, with the close of the transaction expected shortly after that. Similarly, Dell expects to complete the DSG divestiture in the late summer or fall.

Deferring to VMware as the software specialist for the combined entity makes financial sense for Dell. By and large, Dell’s software business has been a lackluster performer, unable to grow and running at single-digit operating margins. In comparison, VMware continues to increase its revenue (although at a lower rate than it once had) and operates twice as profitably as Dell’s software unit. And then there’s the matter of scale: VMware alone is five times as large as DSG.

Dell was a relative latecomer to M&A, only really starting to buy companies in 2007. While Dell was on the sidelines, for instance, EMC picked up more than 40 businesses, including RSA and, of course, VMware. Further, we would argue that if EMC hadn’t made the acquisitions it did during the early 2000s, Dell probably wouldn’t have bought the company. It certainly wouldn’t have had to pay anywhere close to the $63.1bn that it is set to hand over for EMC if the target hadn’t used M&A to expand beyond its core storage products.

DSG will be purchased by Francisco Partners, with participation from Elliott Management, a hedge fund better known for pushing businesses to sell than it is for buying them. (Indeed, Elliott took a small stake in EMC and then agitated for a sale of that company.) Francisco says this is its largest-ever deal. The DSG transaction comes as buyout shops are becoming increasingly busy with big prints. Including DSG, private equity buyers have now announced 14 acquisitions valued at more than $1bn since last June, according to 451 Research’s M&A KnowledgeBase.

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