Will Private Equity Deal Change CDW's Low-Priced Product Stripes?

With the channel's largest player agreeing late Tuesday to be acquired by private equity firm Madison Dearborn Partners for $7.3 billion in cash, competing VARs hope the deal signals an end to aberrant pricing from CDW and a move toward a model that depends more on value and services for profitable growth.

In a conference call Wednesday, CDW chairman and CEO John Edwardson refused to comment on CDW's post-acquisition pricing strategy. When asked if CDW expects its aggressive pricing to moderate once the deal is closed, Edwardson said, "I'm disappointed in your question. It's inappropriate on this particular phone call."

VARs have charged that in recent weeks CDW, Vernon Hills, Ill., has been selling some products below their costs in order to win new accounts. While solution providers note that aggressive pricing from CDW has long been a fact of life, recent moves to mount incursions into their existing accounts with prices below their costs is an unprecedented and disturbing trend.

Some solution providers hope the private equity acquisition will help moderate CDW's pricing strategy.

"If you have private equity, they are going to look at the company differently," said one East Coast solution provider who recently saw CDW come into a longtime account and bid Hewlett-Packard Proliant servers at more than 10 percent below his cost. "They are going to be about value and growth of value. When CDW bought Berbee, I though maybe they would start making some value push, but then they started doing that stuff [selling products below his cost]."

One CEO for a large hardware-centric solution provider, who did not want to be identified, said he does not expect CDW to be less price aggressive under private equity ownership.

"I don't think this will affect their pricing one bit," said the executive. "I think they'll remain every bit as competitive on price. They've never let their public entity status get in the way of going after deals for low margin or in creative ways. Why would this change that?"

The CEO hoped the deal would raise the prospective valuations and prospects for hardware-centric resellers.

"Obviously it shows there is money out there for a hardware reseller business," he said. "CDW sells loads of hardware. It shows that people who think hardware is dead should look again. Selling hardware is alive and well."

The private equity deal comes with CDW pursuing two distinct sales strategies: pushing aggressively priced individual hardware and software products, while at the same time attempting to drive a higher percentage of higher margin solution sales through different units, including VoIP solution specialist Berbee Information Networks, which it acquired seven months ago.

CDW said in its most recent 10-Q filing with the Securities and Exchange Commission that its gross profit margin increase to 16.2 percent in the first quarter, up from 16 percent in the year-ago period, was "primarily due to an increased level of vendor incentives, increased commission revenue and the inclusion of Berbee, as Berbee's business model incorporates a higher service component that generally results in higher gross margin."

CDW also noted the positive impact from "these items was partially offset by a lower amount of cooperative advertising funds classified as a reduction of cost of sales and a slightly lower product margin."

Chicago-based Madison Dearborn executives could not be reached for comment on whether the character of CDW would change under its ownership. But other private equity executives said there is a good opportunity for CDW to find new growth in value-added services.

"The one segment to this whole space not taken advantage of by private equity is the traditional hardware model, leveraging revenue, cash flow,and a strong customer base." said Mike Carter, managing director at The Musser Group, a Wayne, Pa.-based private equity firm. "It's a nice channel to add additional services on top of. Other categories of distribution have used private equity. Look at pharmaceutical distribution in the '90s. Why should IT be any different? There's a lot of revenue, strong cash flow, business fundamentals and strategic [vendor] partnerships. You add services on top of that; it's all about the 'solution.' Infrastructure hardware is 25 to 50 percent of any solution."

Edwardson gave few clues as to the company's direction, but said in the conference call that Madison Dearborn Partners intends to retain current CDW management if company shareholders approve the buyout by the private equity firm.

"One of the things that was very pleasing as we went through the process is Madison Dearborn's endorsement of our long-term strategy, goals and objectives," Edwardson said,. "One of Madison Dearborn's investment principles is to invest in companies that have outstanding management teams, and it is their intent to keep this team intact,"

Edwardson said CDW would reveal more details later today when it files a merger agreement with the SEC. He said, however, that the offer from Madison Dearborn was unsolicited and that the Chicago-based private equity company was the high bidder in an auction conducted by CDW following the initial bid.

--Additional reporting by Steven Burke