Did Madison Dearborn Pay Too Much For CDW?

It's a question being posed by channel observers in light of the fact that the Vernon Hills, Ill.-based direct marketer's stock price hasn't approached the proposed transaction price of $87.75 per share, about $7.3 billion total, since the deal was announced in late May.

"It's dollar for dollar revenue. That's insane for a distribution company basically. There's no intellectual property here," explained one solution provider who did not want to be named.

On Thursday, CDW beat Wall Street estimates for revenue in the second fiscal quarter ended June 30, but investors may be wary of the Vernon Hills, Ill.-direct marketer's deal with Madison Dearborn judging by its stock price.

Its shares closed Wednesday at $85.06, which Brian Alexander, senior vice president of equity research, technology hardware/distribution, at Raymond JamesAssociates, notes is still well below Madison Dearborn's offer. "The transaction price would provide investors with an annualized return of [around] 15 percent, implying there is still a high level of risk associated with the transaction," wrote Alexander in an earnings preview Wednesday.

In an e-mail to CRN, Alexander wrote, "The risk is that the debt costs are more than anticipated and the buyers decide to pull the plug because their expected return goes down. Fifteen percent is a lot considering the overall market is only expected to go up by 10 percent or so."

CDW's valuation in the transaction is significantly higher than competitors, but the company is also the best in its class, said Matthew Sheerin, managing director, electronic supply chain, at Thomas Weisel Partners.

'"Insight Enterprises is the closest, from a standpoint of price to sale, CDW is at 1x [sales] and Insight is at 0.3x [sales]. But keep in mind CDW's operating margins are twice any competitor. Plus they have the best operating metrics, the best returns. They have traditionally traded at a premium than any competitors in their universe," Sheerin said. "From an investor's standpoint, it's a good deal [for CDW]. From a private equity standpoint, it's not cheap by any means."

CDW shares jumped from $75.56 to $83.11 after the Madison Dearborn deal was announced in late May and traded as high as $85.90 on May 30, but they have regularly traded between $84 and $85 per share ever since. The deal is expected to close late in the third quarter or early in the fourth quarter. "There's got to be a good reason why it's only $85, but I don't know. If not, why aren't people rushing into to get two points quick? I watch it every day. It goes up six cents, down four cents. It should be going up $2," said one solution provider.

Sheerin said the discounted trading now is because the deal is not completed. "Some people are looking to take profits now. If you look at most M&A activity, there's usually a little bit of a gap between market price and the offer price. It would be bigger gap if there was doubt the deal would go through," he said.

Executives from CDW declined to comment and Madison Dearborn executives could not be reached for comment.

Some observers also note the differences between CDW's proposed price and last week's sale of CompuCom Systems to Court Square Capital Partners from Platinum Equity for $628 million.

CompuCom's price tag translates into roughly 42 cents for each dollar of revenue for CompuCom, which recorded 2006 sales of about $1.5 billion. The Madison Dearborn offer, meanwhile, translates into roughly $1.07 for each dollar of revenue for CDW, which recorded 2006 sales of $6.8 billion, a big premium for CDW compared to CompuCom.

One VAR 500 CEO, who did not want to be identified, said all solution provider valuations, including his own, are likely too high right now. "At the end of the day it's a very tough competitive industry," he said. "Once you buy at those multiples you must make it work and make it pay off. That looks challenging to me." Meanwhile, CDW's sales continue to chug along, with $2.03 billion in revenue for the second fiscal quarter, compared to $1.63 billion in the second quarter last year, an increase of 24.4 percent.

The results include revenue from CDW's completed acquisition of Berbee Information Networks last October. Excluding Berbee revenue, CDW reported sales of $1.88 billion, an increase of 15.1 percent compared to the previous quarter.

Corporate sector sales were $1.24 billion, an 11.2 percent increase. Public sector sales accounted for $643.6 million, up 23.4 percent for the same period. The direct marketer cited notebooks, desktops, storage, software and video as strong product categories, but did not detail results in those areas.

The company expects to release its full earnings report on July 24.