Michael Dell should ask himself a simple question: “Who is my daddy?” He says his current daddy — Wall Street’s army of sell-side analysts and impatient investors with their insatiable thirst for short-term results — makes it impossible for him to transform Dell from a PC maker into a technology services company. He doesn’t want Wall Street to be his daddy anymore; he wants to grow up and be his own daddy, and thus he is taking his company private.
On the surface this switch makes sense. Wall Street’s time horizon has been shrinking for decades. With Nobel-winning theorists and their by-products — betas, thetas and whatever other “etas” — leading the charge, investors’ long-term decisions are analyzed on a daily and monthly basis, thus turning what might otherwise be long-term investors into long-term traders (an oxymoron).
The media are, of course, a great amplifier of this misalignment. A recent Wall Street Journal article that describes Coca-Cola Co.’s “performance” is a great example of this: “Over its past 20 earnings releases, the company has lagged behind estimates only three times, and always by less than 1 percent.” This is statistically accurate but primitive journalism; a ten-year-old could have written this sentence describing how “well” Coca-Cola management performed. I don’t want to beat up on the Journal too much — the article did have some meat in it — but “beating” the guidance is a game that has little to do with Coke’s core business.
Unfortunately, CEOs don’t live in a bubble, and they read these articles too. As Pavlov’s dog, if you get a reward for “beating the numbers,” you will start to respond to Wall Street’s carrots and sticks. Even if you’re the most rational, long-term-oriented CEO on the planet, quite inadvertently, “beating the numbers” becomes the core of managing the business. Building a business with a competitive advantage that will last for generations — which should be the objective of any CEO — will fade into the background.
Mr. Dell wants to create a legacy that his descendants will be proud of; the company bears his name, after all. But toxic, ADD-infested Wall Street doesn’t provide an environment in which a long-lasting enterprise can be built. Dell needs to go through a transformation. Wouldn’t it be great if Michael Dell could report once a year to just a few private equity partners who had a time horizon measured in years and who “got” what he is trying to build? Of course!
Wall Street only becomes your daddy if you let it.
So Michael Dell should not blame Wall Street for his company’s current predicament and low stock price. That’s too easy. He should direct the blame at himself. Aside from the fact that he was the one running Dell when it made unexciting, eye-insulting boxes and failed to come out with a cell phone or tablet worth buying, he is the one who chose to play by Wall Street’s rules. He did not have to, especially as he was a highly respected CEO who also controlled 15 percent of Dell shares.
Michael Dell let Wall Street be his daddy. At any point in the past two decades, he could have come out and said, “The long-term shareholders and I are the daddy here, not Wall Street.” He could have canceled quarterly conference calls and stopped providing quarterly guidance. He could have let the buy side and sell side make their own assumptions and do their own research and not simply parrot what management said. He could have communicated to shareholders the way many great CEOs do, “Focus on the big picture, not minute details, and make no short-term forecasts.” The stock would have sold off initially as the shareholder base went through a transition, but in the long run only earnings power matters.
There is no Securities and Exchange Commission rule that says every three months corporate management should do what economists and meteorologists have miserably failed to do for decades: forecast a lot of random factors (the global economy, weather, political rhetoric from Europe and Washington, to name a few), assess the magnitude of those factors’ impact on their companies’ top and bottom lines and then spit out earnings estimates. Good luck with that. “Guiding,” “beating,” and “missing” only make it into the C suite’s vocabulary if it allows them to.
Every management gets the shareholders it deserves. Many have held on to Berkshire Hathaway shares for generations. Warren Buffett doesn’t conduct quarterly calls; he probably doesn’t even know how to spell “quarterly.” Despite Buffett being stone-deaf to Wall Street, his shareholders have done okay.
If Michael Dell is honest with himself, he’ll admit that greed is his real daddy. He is stealing Dell from loyal, long-term shareholders who believed in him. (The short-term ones bailed a long time ago.) The PC business is not doing great — everyone knows that — but despite popular perception it is on a slowly declining trajectory, not facing a dramatic falloff. (PC sales were down by mid–single digits in 2012.)
In a previous column I mentioned that PC makers like Dell are simply logistics and marketing companies that outsource R&D and manufacturing to someone else, and so they have mostly variable costs. Thus, as PC sales decline, Dell’s profitability will gradually decline, but it will not fall off the cliff. The company has almost $4 a share in net cash. (The figure is close to $6 if you deduct finance-related debt.) Dell should earn about $1.70 in 2013–’14, so Michael Dell is buying (stealing) the company at less than 6 times earnings. He obviously thinks Dell’s stock is worth a lot more, as it was just a few quarters ago, when he directed the company to buy its stock at higher prices.
I don’t have a problem with greed; it is another word for self-interest. I’ll choose greed over altruism anytime. But I truly hope Dell’s long-term shareholders put up a fight and find enough votes to block the purchase, and then find a CEO who can turn a deaf ear to Wall Street.
Vitaliy Katsenelson (vk@imausa.com) is CIO at Investment Management Associates in Denver and author of The Little Book of Sideways Markets.
