Wednesday, February 13, 2013

The Battle Over Cash and Its Implications: Dell and Apple

The Battle Over Cash and Its Implications: Dell and Apple

While Apple’s stock has fallen sharply in recent months, its fortunes seem far removed from those of Dell, which has struggled mightily for the past decade to regain its footing.  Apple has ridden one innovation after another into a leading position across several huge product areas.  Meanwhile, Dell has failed to reverse its fortunes, having spent billions on acquisitions.  Apple remains one of the most valuable companies in the world with a market capitalization of over $450 billion.  By contrast, Dell’s market cap is a mere $24 billion even after being bolstered by the buyout offer from Michael Dell and Silver Lake Partners.

The Next Fund (2010)

Nonetheless, these companies share a common problem.  They are sitting on huge piles of cash with much of that cash sitting in foreign bank accounts.  Apple has $145/share in cash or about 30% of its stock’s value, and Dell has about $6.40/share or 50% of its stock’s value.  Unfortunately much of the cash is in the wrong place.  If the companies want to return the cash to shareholders, they need to repatriate it and pay roughly 35% in taxes.  If they want to reinvest the cash in the business, it needs to be transferred to jurisdictions where it can be productively deployed.  Moreover in Apple’s case, $137 billion is a staggering amount to plowback into new initiatives and manufacturing plants.  In Dell’s situation, the track record of deploying cash is abysmal.   They’ve spent some $13 billion over the years to buy Perot Systems and a variety of storage companies without generating any value.  It doesn’t inspire confidence.

So Michael Dell, founder of the computer manufacturer, and Steve Einhorn, founder of Greenlight Capital, came along with ideas about extracting cash from Dell and Apple, respectively.   Mr. Dell wants to use the cash to finance his acquisition of the company, and not surprisingly Dell’s largest institutional investor, Southeastern Asset Management is putting up a fight.  Interestingly, Dell’s board is now willing to repatriate the cash despite the tax hit to help Mr. Dell finance his purchase.  As I wrote recently, I expect Mr. Dell to win the battle for the company after raising the acquisition price above the initial offer of $13.85 per share.

Mr. Einhorn wants Apple to issue preferred stock to its shareholders, so that the cash could slowly be paid out, as well as valued by investors.  He’s trying to rally other investors to vote against an Apple proxy proposal, which would, among other things, repeal “blank check preferreds (an anti-takeover device).”  Mr. Einhorn claims that this proposal would restrict Apple’s ability to implement his proposal.  I’m not sure I agree with Mr. Einhorn.  I think he’s pursuing this avenue of attack because Apple has previously rejected his idea.  His proxy fight and a related lawsuit are his way of getting the attention of investors and Apple’s board. 

So when you boil down these two battles, they’re not about Apple’s IPads or Dell’s Latitude Series of laptops.  This is about cash, and who gets it.  I’d like to believe that this cash would be invested in the long-term best interest of investors, because it might fuel innovation and new products.  However as you can from the table below, the people who will decide the battle over cash have investment horizons measured in fiscal quarters.

As Dell’s fortunes have flagged, its stock has fallen into the hands of an increasing number of   hedge funds and other institutional managers.  They are going to battle extremely hard to raise the buyout price, so that their short-term performance and annual profit sharing are as high as possible.  In fact, many of these investors do not yet have a profit on their investment.  Public funds, which tend to champion long term strategies and governance reform, are relatively small players in the case of both Dell and Apple.

Meanwhile, Apple’s ownership remains much more evenly spread, and I would imagine the big banks, and broker dealers aren’t going to rock Apple’s boat.  Thus, Mr. Einhorn’s proposal probably remains a long shot.  You have to have some sympathy for Mr. Einhorn’s position.  If Hewlett Packard, the graveyard for Compaq and host of mid-range computer companies, and Dell are any indications, big technology companies have not done a good job of reinvesting cash.  They've squandered it on big-ticket acquisitions.  While I’d prefer to see the cash well invested, it might as well go back to shareholders if Apple doesn’t have productive uses for it.

The battle for cash isn’t just confined to Apple and Dell.  Hundreds of multinational corporations are sitting on cash and other assets, which is in the wrong place.  Bain and Company[1] has just issued an excellent report on the opportunities and pitfalls of productively of reinvesting this capital in our low interest rate environment.  When investors chase cash in a low interest rate environment, the markets tend to form bubbles and gyrate wildly. The skirmishes at Apple and Dell don’t foster confidence. 


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