Dell announced this afternoon that it’s spinning out VMware, a move that has been suspected for some time. Dell acquired VMware as part of the massive $58 billion EMC acquisition (announced as $67 billion) in 2015.
The way that the deal works is that Dell plans to offer VMware shareholders a special dividend of between $11.5 and $12 billion. As Dell owns approximately 81% of those shares that would work out to somewhere between $9.3 and $9.7 billion coming into Dell’s coffers when the deal closes later this year.
“By spinning off VMware, we expect to drive additional growth opportunities for Dell Technologies as well as VMware, and unlock significant value for stakeholders. Both companies will remain important partners, with a differentiated advantage in how we bring solutions to customers,” Dell CEO Michael Dell said in a statement.
While there is a fair amount of CEO speak in that statement, it appears to mean that the move is mostly administrative as the companies will continue to work closely together, even after the spin-off is official. Dell will remain as chairman of both companies.
In a presentation to investors, the companies indicated that the plan to work together is more than lip service. There is a five-year deal commercial agreement in place with plans to revisit that deal each year thereafter. In addition, there is a plan to sell VMware products through the Dell sales team and for VMware to continue to work with Dell Financial Services. Finally, there is a formalized governance process in place related to achieving the commercial goals under the agreement, so it’s pretty firm that these companies will continue to work closely together at least for another five years.
For its part, VMware said in a separate release that the deal will allow it “increased freedom to execute its strategy, a simplified capital structure and governance model and additional strategic, operational and financial flexibility, while maintaining the strength of the two companies’ strategic partnership.”
Dell shares are up more than 8% following the announcement. The company intends on using parts of its proceeds to deleverage, writing in a release that it will use “net proceeds to pay down debt, positioning the company well for Investment Grade ratings.” By that it means that Dell will reduce its net debt position and, it hopes, garner a stronger credit rating that will limit its future borrowing costs.
Even when it was part of EMC, VMware had a special status in that it operates as a separate entity with its own executive team and board of directors, and the stock has been sold separately as well.
The deal is expected to close at the end of this year, but it has to clear a number of regulatory hurdles first. That includes garnering a favorable ruling from the IRS that the deal qualifies for a tax-free spin-off, which could prove to be a considerable hurdle for a deal like this.
The transaction is not a surprise. The company has been open about its intention to shake up its broader corporate structure. And with Dell bloated in debt terms and, perhaps, in product scope as well, the VMware deal could be an intelligent way forward. Dell investors are more excited about the transaction than VMware shareholders, with the latter company’s stock is up a more modest 1.4%.
VMware’s most recent earnings release notes that it had $4.715 billion in “total cash, cash equivalents and short-term investments.” Perhaps its shareholders aren’t enthused at the prospect of levering VMware’s balance sheet to help Dell do the opposite.