Comment Activist investor Elliott Management, the holder of a billion dollars' worth of Hopkinton shares, has publicly called for a VMware sale in a letter to EMC's CEO and board.
Its release has been nicely timed to closely follow on from HP's decision to split itself into an printer and PC company on the one hand (HP Inc) and a servers/networking/storage/services/cloud enterprise company on the other (HPE). Meg Whitman, who will be chair of the former and CEO of the latter, has publicly said this will enable HPE to be more active in the mergers and acquisitions field.
The two key points in the letter are these:
- EMC’s current structure – “the Federation” – obscures value at EMC.
- EMC should pursue pathways to recognise this value, including a separation of VMware from Core EMC and/or various M&A opportunities
Before saying the the EMC Federation should be dismantled, Elliott says: "It is important that we convey that Joe, for whom Elliott has the highest respect, and his team deserve immense credit for assembling, integrating and building EMC into what it is today."
Elliott's portfolio manager, Jesse Cohn, who signed the letter, neglects to state the obvious: what EMC is today is a target into which Elliott can sink its activist investor teeth to wrestle out cash for shareholders. He does refer to this indirectly: "The substantial value opportunity we describe in Section 3 [below] is only possible due to the high quality of the Company and its individual businesses."
He goes on to say: "The reality today is that the Federation structure, which may have served EMC well years ago, no longer does." Why? Well, according to Elliot, this is because of:
- Stock Price Underperformance: EMC’s stock price has under-performed its proxy peers and the market over all relevant timeframes while this structure has been in place. ... Core EMC, if it traded as a standalone company, would undoubtedly trade at a premium to NetApp. [Currently it does not.]
- Core EMC is Deeply Undervalued: The Federation structure has led to a widely-recognised undervaluation of “Core EMC” (EMC excluding VMware).
- EMC and VMware now compete: Both EMC and VMware have grown and are now competing against one another, confusing customers, employees, Street analysts and shareholders. ...“[T]here's aspects of software-defined storage that Pat's [VMware’s] doing, that David's [EMC II’s] duplicating, or David's doing that Pat's duplicating, depending on how you want to look at it” – Joe Tucci, EMC CEO and Chairman.
- EMC II and VMware hinder one another: Though separate companies, they are still “together,” a fact that inhibits each business’s ability to partner.
- The Federation and Joe’s Tenure: Joe is the architect and manager of the Federation. It is not viable to keep the structure as it stands today beyond his tenure as CEO.
Elliot points out: "Though the Federation strategy for EMC and VMware does not work and cannot be continued, the two companies can easily continue their partnership after a separation."
Cohn adds that: "Joe is the Federation’s architect and its leader: There is only one Joe and he is not substitutable."
No Joe means no Federation: "The most important thing a Board does is succession planning and preparation – to retain a bespoke structure dependent upon one very unique individual is not the correct decision. It may hang together while Joe is still the active CEO, but it will not work beyond him."
The Federation hinders value release, Elliot argues: "The sum-of-the-parts valuation is meaningfully higher than EMC’s current stock price and represents a significant opportunity to drive a substantial increase to shareholder value by adjusting the Federation structure."
Elliott sees two alternatives: spin off VMware from EMC or have EMC merge with or be acquired by a third-party (M&A).
Regarding M&A, Elliot says: "EMC and its assets are attractive to a number of parties in the broader enterprise IT landscape. ... we have learned of acquisition interest in EMC’s assets on the part of several large companies that make strategic sense and which involve parties that could both afford to acquire the EMC Federation as a whole or distinct assets within the Federation, and could also successfully integrate these acquisitions.
"An acquisition of EMC by any of these buyers would create the leading enterprise IT company in the world."
Both alternatives could be pursued simultaneously: "Announcing and pursuing a spin-off does not preclude an M&A pathway."
Can EMC withstand this? Is Joe's legacy going to be the rip-and-replacement of his crowning triumph – the EMC Federation?
See the whole text of the letter here. ®