When the news broke in early October that Dell was planning on buying EMC for a whopping $67 billion, more than a few jaws dropped (including mine), but in the weeks since, reports have surfaced about multiple problems from tax issues to VMware’s plunging stock price and the post-deal creation of Virtustream.
It’s too soon to say the deal is in jeopardy, but there are enough issues that this has to be giving Michael Dell and EMC CEO Joe Tucci some cause to worry (and perhaps pop more than their usual supply of antacid), while giving lawyers, accountants and investment bankers lots of billable hours to sort it all out.
Where to begin.
First, a bit of background: EMC owns an 80 percent stake in VMware, but VMware is traded as a separate company and operates independently with its own stock and board of directors. In a blog post shortly after the deal was announced, Michael Dell sought to reassure customers and partners (and presumably shareholders) that he wasn’t going to mess with VMware when Dell takes over next year.
It’s not clear that the message got through to the shareholders.
EMC and VMware probably didn’t help matters when they announced a short time later that they were creating a jointly owned cloud-computing business called Virtustream from the company EMC bought in May for $1.2 billion. While EMC and VMware would share ownership 50/50, the new company’s balance sheet would be on the books of VMware, which made VMware stockholders a bit nervous.
It wasn’t the only thing. Due to a number of factors, including that announcement, VMware’s stock has plunged 30 percent since Dell and EMC announced the deal, and investors are especially anxious about Virtustream and its connection to the VMware balance sheet, according to a recent article in the Wall Street Journal.
What’s more, the WSJ reported that at least one analyst was recommending EMC and VMware nix the Virtustream idea altogether, which seems unlikely, given one of the reasons for the merger was the cloud computing component that Virtustream would give these companies.
That led to yet another wrinkle. Instead of a 50-50 split with VMware, perhaps EMC would maintain its majority stake in Virtustream to make it more palatable to investors, according to a Reuters report last week.
All of this maneuvering could be related to a provision in the Dell-EMC agreement, tied to EMC’s ownership stake in VMware. Dell has agreed to pay EMC shareholders $24.05 per share. In addition, it will pay an amount that tracks against the share price of VMware. This is known as tracking stock. As the stock price has dropped, it has made this provision less valuable and shareholders more skittish.
Yet another bone of contention related to the tracking stock popped up earlier this month when re/code reported that there could be an issue around interpretation of the IRS rules related to the sale of the tracking stock. Under one interpretation, there is no tax burden. Under the other, there is a massive $10 billion bill, which would make the deal substantially more expensive than first agreed upon.
Finally, there is a provision in the deal that EMC had a 60-day window to continue shopping the company. While it seems unlikely that EMC could find a better deal for its shareholders than the one it negotiated with Dell, you have to think it is at least trying to find a higher bid while the window is open. It’s worth noting that that window will close this month.
It’s never easy combining two companies in this fashion, but this deal has taken on layers of complexity since it was first announced, made even more thorny by the creation of Virtustream after the deal was signed. It’s unlikely any of this will undermine the completion of the agreement, but it certainly makes it more challenging to get it done and satisfy all of the various parties involved.