In-Depth

Dell's Historic and Risky EMC Catch

By reeling in EMC for $67 billion, Dell is attempting the largest IT acquisition ever. The deal has huge potential, but is fraught with risk and uncertainty.

• By Jeffrey Schwartz
• 12/07/2015

Rumors of megamergers are perpetually floated in the IT industry but few suitors actually pull the trigger. That changed in mid-October when Michael Dell and his team of investors at Silver Lake Partners were able to convince banks to lend them the $50 billion they needed to finance the Dell Inc. acquisition of EMC Corp. and the storage vendor's controlling interest in VMware Inc. for $67 billion. If the deal goes through, and most believe it likely will despite investors challenging it, it would mark the largest-ever acquisition of an IT company and the biggest leverage buyout in any industry.

The combination of these two industry giants will have repercussions on numerous IT products now used. It also raises questions about a number of key alliances with a variety of tech companies of all sizes, including its close partnership with Microsoft, which both companies insist won't in any way be negatively impacted.

In acquiring EMC and a controlling interest in VMware, the new Dell with $80 billion in annual revenues would see an enormous rise in its influence on IT. The new Dell would have a play in everything from Internet of Things endpoints and gateways, tablet PCs, and thin clients to servers, networking, storage, security and cloud computing hardware, software and services. The combined company will also serve everyone from consumers and small and midsize businesses to the largest of enterprises offering a wider array of products than any one provider.

The acquisition is two and a half times larger than the last megadeal sealed when Hewlett-Packard Co. acquired Compaq Computer back in 2002 for $18.6 billion. Completion of the Dell-EMC deal is subject to a number of regulatory, legal and financial conditions, meaning it could fall apart. But two months after it was announced, despite some who are challenging it, most experts believe it'll go through, even if the two companies have to shed some assets to make it happen.

With $50 billion in debt on the books, the deal is risky. Michael Dell counters the company has managed to service the debt it has incurred since he and Silver Lake took the company private in 2013 for a healthy $24 billion. Dell is confident it can maintain the cash flow to service the new debt, and while that's huge, it has the fallback of being able to sell some if its stake in VMware in a worst-case scenario.

Consolidation Across All Sectors
While the Dell-EMC deal represents the largest IT merger to date (presuming you don't count Time Warner's ill-fated $182 billion acquisition of AOL in 2000), it reflects a growing wave of consolidation in a number of sectors. Just as the Dell-EMC deal went down, Anheuser-Busch InBev agreed to acquire its largest rival SABMiller for $107 billion. Consoli­dation has swept a number of other sectors including the cable industry where Charter Communications picked up Time Warner Cable for $76 billion, a large energy merger between Royal Dutch Shell and BG Group valued at $82 billion, Heinz and Kraft Foods for $62 billion, in retail Walgreens agreed to acquire rival Rite Aid for $17 billion and a number of health-care providers have combined, notably Anthem Inc. and Cigna Corp., for $62 billion.

With the Dell-EMC deal, analysts say it could kick off a wave of further consolidation in the IT industry, whether it's megadeals or companies continuing the trend of picking up emerging players and startups. "I think we'll continue to see the bigger fish swallow some of the smaller fish," says Colm Keegan, a senior analyst at Enterprise Strategy Group.

The IT industry has had its share of recent deals, though none coming nearly as large as the Dell-EMC merger. It's also somewhat ironic that at the same time Dell pulled the trigger on EMC, two big failed mergers from a decade ago were pulled apart: Symantec Corp. and Veritas and HP's divestiture of its PC and printer business, which in many ways unwinds a good part of its Compaq acquisition. And IBM Corp. last year shed its xServer business, selling it to Lenovo a decade after doing the same with its PC business.

Meg Whitman, CEO of the former HP and now the chief executive officer of the new Hewlett Packard Enterprise (HPE) once championed Dell's belief that bigger was better before reversing course. Whitman reportedly told employees that Dell's acquisition will fail. In an e-mail she told employees that with the historic $50 billion in debt Dell is assuming that it would pay $2.5 billion per year in interest alone. "That's $2.5 billion that they will allocate away from R&D and other business-critical activities," according to the e-mail.

Asked at a press conference at the annual Dell World 2015 conference in Austin, Texas, a week after the deal was announced, Michael Dell at first didn't want to take the bait, saying: "HP is a great VMware partner." But after a brief pause, he added: "I think she got some of the facts wrong, we'll let the facts speak for themselves."

The Deal's Rational
Dell and EMC have a storied history as partners and rivals. Back in the late 1990s, when Dell was a high-flying provider of PCs and had just added its own printers to the mix after years of reselling HP's offerings, Dell started offering servers and storage. While Dell was able to easily extend its build-to-order PC supply-chain prowess to servers, which have similar architectures and design characteristics, Dell lacked credibility in storage, so it inked a deal with EMC to resell some of its mid-range and lower-end storage products. After a number of years, Dell stunned EMC by acquiring one of its rivals Equallogic Inc. Shortly thereafter Dell stopped selling EMC storage and later acquired Compellent Technologies Inc. and started building out a credible storage business targeted at the small and midrange, though it has started targeting smaller enterprises.

Over the years, Dell has made a variety of acquisitions in storage, systems management, networking and security with the addition of companies such as KACE, Quest Software, SecureWorks, Forece10 Networks, SonicWall, AppAssure, Wyse and cloud orchestration provider enStratus.

EMC, with its 81 percent ownership stake in VMware, would give Dell more credibility in the larger enterprises and their CIO and CISO suites, with its broad array of high-end storage offerings and enterprise solutions.

With its combined $80 billion in revenues, the company would carry weight similar to IBM, Oracle Corp. and Microsoft. "It gives us a world-leading company in the four significant areas of IT, servers, storage virtualization, and PCs, and an incredible position of IT tomorrow, digital transformation, converged infrastructure, software-defined datacenter, hybrid cloud, security, and more," Michael Dell said at the Dell World media and analyst briefing. "The combination also gives us an incredibly strong go-to-market engine with access to the world's largest companies, as well as an incredible reach into small and medium-sized businesses, and emerging markets around the world. This is combined with the R&D innovation engine of EMC and Dell together and the world-class supply chain."

Based on his meeting with customers, the ability for one supplier to provide everything tied together is compelling, Micheal Dell said on a conference call on the morning the deal was announced. "Customers don't want to have to inte­grate things themselves," Michael Dell said. Nevertheless, Dell and EMC coming together will take years to integrate and assimilate, leading to uncertainty among what products will be eliminated, experts warn.

Benefits and Concerns
David Vellante as co-founder and Chief Research Officer of The Wikibon Project, notes Dell could be just what EMC needs. "Dell is expert at running low-margin businesses and we believe this is a necessary step for companies such as EMC to remain competitive with the pricing pressures from cloud and open source," Vellante wrote in an analysis on the deal. "We expect Dell to leverage its giant supply chain to keep prices down. That's good news for customers unless it impacts service levels. We believe this underscores the imperative to accelerate the adoption of public cloud options where sensible as a hedge to transitioning service models."

Customers should expect EMC products such as VMAX, VNX, Data Domain and potentially others to see a more narrow focus on R&D, longer product cycles and higher support and maintenance costs, according to Vellante. Areas of EMC IT decision makers can expect Dell to invest more heavily include Flash/XtremIO, ScaleIO, DSSD/Graphite Systems, ViPR, VMware's NSX, Pivotal and AirWatch.

"Dealing with the requirements of quickly moving technology and slower-moving technology can be very challenging," says Dan Kusnetzky, principal analyst with the Kusnetzky Group. "IBM decided that it couldn't do it and divested itself of both its PC and its x86 server businesses to Lenovo so that it could focus on enterprise systems, software and services. It decided that it would explore new territory in the area of AI and Big Data analysis (Watson) and all the ways it could help businesses. HP appears to have seen the same challenges and decided to split itself up into two entities. Dell sees the challenges and thinks that it can be both fast, innovative and ride the waves of the industry while also carefully and deliberately innovating to smooth the customer's ride into the future."

PundIT analyst Charles King believes the deal will be good for both companies and will benefit customers and partners, as well. "The size of the deal is striking, but it seems like the IT industry is always going through one consolidation phase or another," King says. "With a few exceptions, it hasn't impinged on overall innovation. So far as concerns go, the biggest issue I can see is potential loss of talent if the deal is delayed. Some employee churn is inevitable, but you want to minimize it as much as possible."

IT Industry Disruption
The upshot of the Dell acquisition of EMC, HP's and Symantec's split into two companies, and leveraged buyouts of key players this year such as Informatica and SolarWinds Inc., and uncertainty surrounding companies such as Citrix Systems Inc., which is considering strategic options, is there's significant disruption and uncertainty taking place in the industry. And that doesn't even take into consideration the transitions to IT platforms and architectures that are evolving toward cloud-native, scale-out infrastructure designed to support OS- and VM-independent, modern apps built on containers and microservices. Dell's biggest bet there is in VMware's development of such a platform called Project Photon.

On the heels of the deal's announcement, EMC said it was spinning off Virtustream, a rapidly growing cloud provider EMC acquired in May for $1.2 billion. Under the new arrangement, Virtustream will be a 50-50 joint venture of EMC and VMware and will incorporate the VMware vCloud Air public network. The implications of that and what it brings to Dell are still uncertain other than it will be led by Virtustream CEO Rodney Rogers.

"IT decision makers must navigate evolving go-to-market programs and portfolio roadmaps," says Krista Macomber, an analyst at Technology Business Research Inc. "From the standpoint of innovation -- there's no arguing with the benefits of scale and combined resources and expertise that a behemoth like the combined Dell-EMC company would enjoy. Meanwhile, Hewlett Packard Enterprise loses some scale but gains a more concentrated and agile business model that can sharpen its ability to support customers' broad-scale transformation initiatives."

For Dell and EMC, the combination of the two companies will require significant portfolio rationalization and channel disruption, she says. "Additionally, if the deal falls through, TBR believes that Dell and EMC would face customer and partner skepticism that competitors could take advantage of."

Presuming the deal goes through, Wikibon's Vallante says Dell will become a force in the IT business that every customer, technology partner and competitor will have to take seriously. "By owning EMC and controlling VMware, Dell has in one stroke improved its strategic importance to customers," he notes. "Largely viewed as a PC supplier and seller to SMBs, Dell overnight has become more important to CIOs. With the HP split, Dell is now the only true end-to-end supplier in the IT business. Does this matter? To very large buyers, yes, as they will have priority access to the very best pricing and more influence on integration and roadmap direction. We advise CIOs to be proactive about initiating high-level interactions within the new entity.