Is Dell A Bargain?

Fred Hickey says no. Mason Hawkins and Staley Cates say yes.

At the end of his "Up And Down Wall Street" column in this weeks Barron's, Alan Abelson reports on a phone conversation with newsletter writer Fred Hickey on Dell Computer:

"But while Dell carefully prepared investors for a blah showing with pre-emptive warnings, the actual results in some important ways were worse than expected.

"So spake the incomparable Fred Hickey when we chatted with him on Friday (the company released its earnings on Thursday, which occasioned our call). While in its official exegesis of October-quarter results Dell cited softness in the U.S. and U.K. consumer markets as the prime culprits responsible for its lackluster showing, Fred says the striking thing was how relatively poorly it did just about everywhere. And everywhere in this case includes the booming Asia-Pacific market, which takes in China and Japan. The only real strength for the company, he notes, came courtesy of U.S. business demand.

"Fred was particularly disturbed by what he espies as the deterioration of Dell's balance sheet, something, he sighs, the analysts who follow the company seem to pay scant attention to. In particular, he cites the rise in inventories, receivables and payables, along with ballooning 'other assets,' a vague and catchall category.

"He further questions Dell's heavy repurchases of its own stock, which for all they may support per-share earnings, eat away at stockholders' equity. In that regard, he sighs, book value has shrunk steadily to its present reduced status of less than $2 a share (his more precise calculation puts it at $1.98). Which means, among other things, that Dell's stock is selling at around 15 times book, a rich price, indeed, for a company whose growth is perceptibly slowing.

"What's more, Fred observes, Dell's middling performance is taking place against a backdrop of pretty vigorous PC demand: Worldwide unit sales are up something like 17% this year. If Dell finds the going tough now, he can't help but grimace at its prospects if, as he anticipates, consumers, under pressure from high fuel prices and a less accommodating housing market, cut back their frenetic consuming of all kinds of stuff, including computers.

"He doesn't think, to state the obvious, that Dell has seen the last of its woes or that its stock, even after suffering a spate of selling, bears much resemblance to a bargain."

Sounds reasonable to me. I've never owned Dell and don't really get excited about buying any stock trading at 15 times book.

So I was surprised to see Longleaf Partners Fund stating in its 3rd quarter report having bought Dell.

In fact, Dell is the 4th largest position in the fund (as of September 30) -- with over $502 million invested in the company.

Mason Hawkins, Staley Cates and John Buford write in the fund's management discussion that Dell is an entrenched brandname, has dominant market share, and produces generous free cash flow. They say that Dell's management owns a substantial stake in the company (thereby aligning their interests with shareholders) and is growing value by aggressively buying back shares at depressed prices. (They also say the same about another new holding, Anheuser-Busch.)

Interesting when smart people view the same thing differently. Hickey and the Longleaf folks don't just disagree about Dell -- they specifically have opposite opinions of the company's share repurchases.

I don't have a dog in this fight. Though it will be fun to see who is ultimately proven right.

P.S. The Stalwart posted on Dell, Hickey and Abelson's column yesterday.

Comments

[RC]

According to Yahoo's key statistics, Dell has more cash per share(even after subtracted debt) than this stated book value. How is this so? Am I interpretting something incorrectly? Thanks

RC

[me]

I have always owned Dell computers but two things have changed. 1. their support is atrocious. 2. By avoiding AMD they are way behind in processor power. For video the new AMD chips run circles around Intel.

[DeliLama]

Dell certainly doesn't have any net cash. Total liabilities are $18 billion and cash is only $6.8 billion. The way to figure net cash is to start at the top of the liabilities and match cash up with each item until you either run out of cash (meaning there is no net cash) or run out of liabilities (whatever remains is net cash).

I walked through the latest 8-K from Dell and I see a pretty solid business with slightly deteriorating balance sheet. Nothing all that serious. I figure the business is mature and likely to track PC sales roughly unless they get knocked out in the future by someone with a different and better business model (always a threat). I certainly wouldn't want to "pay up" for Dell's earnings vs some other solid business that's kicking ass with room to easily grow.

I've dealt with Dell both as a vendor (from within two different vendor companies) and a customer and I dislike them on both ends. But then again, they're not really any worse than the other PC makers. But that alone would make me nervous about unexpected future competition.

I figure Dell is worth about $17 per share, so I'd want to buy them at a price of about $10 or less. Let me check the latest stock price... Hah!

[RC]

"Balance Sheet
Total Cash (mrq): 9.05B
Total Cash Per Share (mrq): 3.773
Total Debt (mrq): 648.00M
Total Debt/Equity (mrq): 0.118
Current Ratio (mrq): 1.169
Book Value Per Share (mrq): 2.281"

Where does the discrepency arise?