Blackstone Group LP (BX:US) decided against a bid for Dell Inc. (DELL) in part because executive Dave Johnson, the computer maker’s former mergers chief, pulled support for the deal he helped conceive, said people familiar with the matter.
As he and Blackstone’s Chinh Chu conducted due diligence following the March proposal to buy Dell for more than $14.25 a share, Johnson found that the enterprise-solution business, heralded by analysts as Dell’s future, was years away from competing meaningfully in that market, said one of these people, who asked not to be named as the process was private. He also grew concerned that the managers who formed the backbone of that business had left or were likely to leave after a deal, that person said.
At Dell, Johnson had spent about $10 billion on acquisitions, including Compellent Technologies Inc. and Force10 Networks Inc., to help the PC maker diversify beyond its roots. Since January, when Dell disclosed that he had left to join Blackstone, the business had made less progress on integrating those purchases than he expected, indicating that it would take months or years longer than first projected, said the person.
Johnson andChu had spearheaded the bid in a challenge to founder Michael Dell and his partner Silver Lake Management LLC, which offered $24.4 billion to take over the computer maker in February. Johnson’s concerns weren’t the only obstacle after April 10.
At that point, dozens of Blackstone executives and advisers had spent three days going over confidential data with Dell management near Austin, Texas, when news of a record decline in global PC sales made some on the team doubt the wisdom of its offer, said people familiar with the matter.
Everyone working on the deal knew of Dell’s own PC sales slump, according to people familiar with the Blackstone efforts. However, the release that afternoon from technology-research firm IDC showing that PC sales had sunk 14 percent in the first quarter from a year earlier undermined a crucial element of the investment case for buying Round Rock, Texas-based Dell, the people said.
The data raised questions on whether Dell’s internal projections were reliable -- a consistent issue with the company -- and whether sales in developing countries such as China would be able to make up for weaker U.S. performance, said the people. Those concerns, along with others about the strength of the enterprise-solutions business and on how effectively Dell could compete with China’s Lenovo Group Ltd. (992), prompted Blackstone to back off, said the people.
“I regret to inform you that we will likely not pursue this opportunity,” Blackstone partner Chu said in a letter to the Dell special committee dated April 18. His letter cited the “unprecedented” decline in PC sales, which was “inconsistent” with Dell management estimates for modest industry growth.
“The Dell special committee is going to continue its process and the company will continue to focus on its business and its customers,” said David Frink, a spokesman for the computer maker. Dave Johnson referred a request for comment to a spokesman, while Blackstone didn’t immediately respond to several requests for comment.
Blackstone first dove into Dell weeks earlier. On March 25, Dell said it had received proposals from Blackstone and Carl Icahn that could be superior to the original $13.65-a-share offer from the founder and Silver Lake. Blackstone, whose non- binding plan valued Dell at more than $14.25 a share, proposed a leveraged recapitalization transaction in which investors could choose to get either all cash or equity, subject to a cap, if they wanted to continue holding Dell. In that scenario, some of the shares would remain publicly traded.
At the time, Blackstone (BX) and co-investors Francisco Partners and Insight Venture Partners said they planned to pay for the deal with equity and debt financing, as well as Dell’s cash and equivalents.
Chu’s letter ended all that. Beside the PC decline, he also wrote that he was concerned about Dell’s “rapidly eroding financial profile.” At the end of March, the company lowered its forecast for operating income for the current year to $3 billion, a 19 percent drop from the previous forecast made around the time of Blackstone’s initial overture.
As the scope of the overhaul grew, some of the Blackstone camp conducting diligence noted the firm had less technology industry experience than Silver Lake, meaning a turnaround might prove tougher for Blackstone to execute, adding to the risk, said one of the people.
The skepticism at Blackstone was never related to financing, another person said. The firm had already enlisted Morgan Stanley, HSBC Holdings Plc, Deutsche Bank AG and UBS AG to provide funds, said a person familiar with the matter. Deutsche Bank, which is part of the Silver Lake effort, was prepared to back out and join Blackstone’s team, this person said. Representatives at Morgan Stanley, UBS, Deutsche Bank and HSBC declined to comment.
The first week of Blackstone’s diligence was dominated by Dell executives presenting department plans and outlooks to the potential investors and their advisers -- an audience that ranged from 40 to more than 100. Johnson and Chu began the process with the view they could do the deal without CEO Dell, and were considering other CEO candidates, said some of the people.
Blackstone and Michael Dell quickly realized they needed each other and got along better than first expected, said these people. However, there was always some resistance from Dell, who made it clear that he didn’t want his deal with Silver Lake to be defeated by a rival buyout that would end his control, the people said.
Retaining Michael Dell as CEO without ownership control of the company and recruiting a strong chief operating officer from outside Dell was one option under consideration to assuage concerns his ouster would alienate some customers and executives, according to the people. Had Blackstone gotten comfortable with Dell’s numbers, executives were prepared for a difficult conversation with Michael Dell about his future, said these people. That conversation was never needed.
Tensions surrounding the future of Dell’s senior management grew as diligence and business planning progressed in Texas, said one of these people. It became clear to the Blackstone buyout group that most of Dell’s (DELL) executives -- the very people talking to Blackstone about the company -- preferred a Dell- Silver Lake outcome, raising additional concerns about executive retention.
By the middle of the second week of due diligence, the body language and comments from the Blackstone team in Texas had turned negative, said two people familiar with the matter.
Every few days as the teams crunched the numbers and new information came in, the “investment thesis,” or how private equity determines if a bid should go ahead, got riskier and riskier, with potential profits being pushed out one year later and then another, said one of these people.
The Blackstone investment committee met April 18 and concluded it should pull the plug and let Dell know as soon as it could. Later that afternoon, Blackstone President Tony James called advisers, and then the Dell special committee that night, to let them know Blackstone was dropping out.
Within a few hours the letter ending Blackstone’s involvement with Dell was written and on its way to the special committee.
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