Microsoft’s Stake in Dell: Beyond the PC

By now you’ve heard the news that venerable PC maker Dell is being taken private by its founder and CEO Michael Dell. Needless to say, he enlisted some help: private equity firm Silver Lake Partners. But Microsoft also put up a $2 billion stake. What will the software giant get out of the deal?

To start with, nearly everyone points to the fact that Microsoft needs loyal PC makers to keep selling its software – not just the Windows operating system, of course, but Office as well. Few have been as loyal to Microsoft – or as stable – as Dell. But there’s a lot more going on here; indeed, a number of observers note that the stake has post-PC future written all over it.

Consider this: Dell today somewhat resembles what IBM was like back in the 1990s. Both companies were known for their hardware, with a big part of their business coming from, um, business – that is, companies that needed reliable computers. In IBM’s case, though, the market was changing drastically; as computers became more like simple commodity items (thanks in part to Dell), the profit margins on hardware tightened. In response, Big Blue began reinventing itself as a “services and solutions” company rather than a hardware company. The great milestone signaling that IBM completed its transition came at the end of 2004, when it sold its PC business to Lenovo.

I’m rehashing this history because a lot of it should sound very familiar in the case of Dell. What many people may not realize is that, like IBM, Dell has been busy trying to re-engineer itself. As Michael Endler noted in a story for Information Week, “The company spent billions over the last few years acquiring companies such as Quest Software, AppAssure and SonicWall, and it’s offerings now emphasize cloud computing, converged infrastructure data centers and management software as much as PCs.”

If this sounds a little like news to you, well, you’re not alone. Despite all those purchases and new offerings, Dell failed to shake its image as a PC company. Everyone knows that hardware still accounts for much of the firm’s revenue stream. Taking Dell private with this $24 billion deal will give Dell a chance to reorganize and reorient itself – as IBM did – as a services and solutions company, but without the harsh glare of shareholders watching Dell’s every move and impatiently going through every quarterly report.

By the time Dell comes out the other end, it will look rather different from the way it looks today. With its investment, Microsoft will be in a good position to take advantage of those changes and use them to suit its own ends. As Marty Wolf observed, “In Dell’s current business, it has a 5.74% operating margin. Microsoft has an operating margin of more than 36% – much of it through bundled software…Microsoft can influence more sales of its software through the Dell legacy business.” But going beyond computers, “Dell’s transition to services also creates other opportunities for Microsoft in the cloud, big data and virtualization – all areas that are part of Microsoft’s future in the enterprise space. Microsoft can theoretically end up with a services provider,” Wolf explained.

Does that kind of partnership make sense for Microsoft? You bet it does. As eWeek pointed out, “Enterprise software and services are among Microsoft’s strongest – and growing – business units.” If Dell successfully completes its transition from a PC vendor to a provider of enterprise IT services, the Microsoft-Dell partnership will grow even more beautiful – and profitable – for both of them.