Dell's Perot Buy: Just a Good Start

If Dell is to take on IBM and Hewlett-Packard in computer services, the PC maker will need acquisitions beyond its $3.9 billion Perot purchase

By Aaron Ricadela

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Dell's $3.9 billion acquisition of Perot Systems vaults the computer maker into the market for technology services, an area it has coveted as the PC market faltered. But Dell (DELL) will need to make additional deals if it hopes to mount a credible threat to IBM (IBM) and Hewlett-Packard (HPQ) in services, analysts and bankers say.

As it moves to bulk up in services, Dell will also need to expand beyond Perot's core strengths in health care and government and redouble efforts to bring in business from outside the U.S.

Dell snared Perot Systems (PER) after two years of on-and-off negotiations, announcing the acquisition on Sept. 21. CEO Michael Dell said in a conference call that he began talking to Perot Chairman Ross Perot Jr. about a deal in 2007 and that the conversations heated up this summer. Dell has long known Perot Systems founder and former Presidential candidate Ross Perot and his son.

Buying Perot Systems furnishes Dell with a technology outsourcing and services provider that will help the computer maker diversify beyond its slumping core business. Perot is strong in the health-care and government markets, areas that stand to benefit from increased spending by the Obama Administration. "There are going to be some large contracts out there," says Jarrad Zalkin, vice-president at investment bank TM Capital. "If you have staying power on the services side, you'll be in a preferred position."

Computers, Microsoft Software, and Services

Dell could augment its services business by buying smaller companies that complement Perot's business and help automate delivery of technology services, says Jayson Noland, a senior analyst at Robert W. Baird, who has a "neutral" rating on Dell shares. But integrating Perot, which has 23,000 employees, won't be easy for Dell, and Noland says he doesn't expect to see Dell make "another headcount-heavy deal in services." In a research note to clients issued on Sept. 21, Noland said he expects Dell to remain acquisitive, perhaps acquiring data backup software company CommVault Systems (CVLT).

Another advantage Dell holds in technology services is a close relationship with Microsoft (MSFT), whose software is often sold alongside Dell PCs, servers, and storage systems. Consulting companies that can stitch together Dell hardware and Microsoft software for customers would also be likely targets for Dell, says TM Capital's Zalkin. Among the companies that fit the bill are Perficient (PRFT) and privately held Tectura. Another company that specializes in so-called systems integration, Ciber (CBR), has expertise selling to the federal government. On Jan. 9, Dell said it paid $12 million for units of consulting company Allin that specialize in Microsoft technologies. "The missing piece of the puzzle [for Dell] is systems integration," says Zalkin.

Yet Dell will face some tough challenges as it folds Perot Systems' $2.8 billion business into its own. Perot has struggled for years with slow sales growth, tight profit margins, and powerful competitors. It has imposed layoffs and handed out small salary increases for several years, says a former Perot Systems executive, speaking on condition that he not be identified. "They've been cutting like crazy trying to keep their margins up," this person says. "They've been looking for the right kind of deal for a while."

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