What's Really Wrong With Dell

Daniel Gross had an interesting Slate.com piece this week called Is Dell Dying? - What's wrong with America's greatest computer company.  It's a good question as the company's stock (NASD: DELL) hovers near a 52-week low, in the aftermath of a rare earnings miss for the company whose founder has been compared to Henry Ford for revolutionizing the art of computer assembly.  The problem is, of course, that they've become a huge and mature company making a product that's always dropping in price in a market that's not growing.  Pretty simple, and a problem that's facing many of the 90's upstart tech darlings, which are now looking like lumbering giants.

But the maturation of the computer industry is really just one issue.  Another problem is that  Dell doesn't do a good job of returning value to it's shareholders or building up wealth.  So while companies like Microsoft (NASD: MSFT) are able to return piles of cash to their owners when growth is hard to come by,  Dell has consistently siphoned shareholder money towards their employees, limiting the value of it's stock.

Let's look.

In 1996, Dell, still a young company in the world's fastest growing industry sported $973 Million bucks in Shareholder equity according to their 10-k.  (Note, all of this information comes from their SEC filings).  Since then then they've made an accumulated $16 Billion and change in Pro-Forma net income.  So, anyone wanna take a guess as to what their shareholder equity stands at today? Come on take a guess.

$6.5 Billion.

Right, you can forget all that accounting-school stuff about income adjusting equity, especially in the world of big-tech and stock options.  Let's look further.  The company's announced many buybacks over the years.  That might explain where all the cash has gone...except that while they've announced acumulated buybacks of 993Million shares, total share count has been reduced by a mere 384 Million shares.  And that gap of 609 shares between what they've bought back and how much share count's been reduced?  From shareholder pockets to employees in the form stock options.  Of the $20 Billion they've spent on buying their own stock, only about 1/3 of that (384/993) or $7 Billion works to reduce shares.  Add that $7 Billion to the $5 Billion in increased shareholder equity and divide that into their $16 Billion in net income.

All told, less than 75% percent of income actually get's back to shareholders, and that's including huge tax benefits associated with the issuance of stock options.  If you strip that out, you'll find a conversion rate of closer to 50%.  Without the tax cuts we'd either see a major hit in cash flow, or a major exodus from DELL as employees sought their riches elsewhere.

This kind of accounting worked great when growth was phenomenal, but fails when growth slow downs, and shareholders demand money.  It's not so surprise now that DELL has been a laggard for so long.

Comments

[Bill Burnham]

I agree with you that many tech firms are too generous with their options, but I think you're being a bit hard on Dell. The stock has an annualized return of 31.4%/year since the end of 1996. As for recent performance, yeah it's lagged many other big caps in the last 12 months (up only 2.2%), but it's up an average of 16.4% since the end of 2001 vs. the NASDAQ's -2.9% return. Whatever they are doing with their cash, it looks like it's working. If they are giving it to the managers, so be it; by most measures they are doing one hell of a job for their shareholders.

[A Stalwart]

Bill, according to this chart it would appear that Dell's performance over the last year isn't anywhere near %16 annualized since the end of 2001. Perhaps you mean total, which is OK, but I'd stick with the argument that since the end of the "Bubble", DELL stock has been basically dead money, and if they'd done a better job accumulating cash and value they might actually have something to offer their shareholders.

As for their growth since 1996, that's atmittedly been awesome. But most of those gains were back in the Good ol' days, when gains could be had on paper, with less solid value backing them up.

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