Thursday, October 06, 2005

What multiple should Dell trade at?

Dell has publicly said that they'll shoot for 25% sales deriving from credit growth. That is not an insignificant amount. If that's the case, what should an investor pay for Dell in terms of P/E. Let's do a simple exercise.

For simplicity sake, we'll take this 2005 consensus estimates of $1.59 as the base and assume that they have already hit 25% mix in their revenue being financed. Since Dell essentially is running like a bank, investors should put a bank multiple for the 25% of its earnings which running at about 10x. (All multiples are forward multiple)

Hence

Dell current multiple 20x * 75% + 10x *25% = 17.5x

Current price of Dell should be around $27-28 vs market price $32.

Wait a minute, that's not fair, since Dell mix is not there yet. Yes, one could project x% of 1.59 in the future and project the real earnings but the point is at whatever earnings Dell is going to get, there will be a 10-12% hair cut in multiple due to its mix since it is carrying credit risks.

Strangely enough, banks have to disclose their credit experience such as % of delinquency etc. Dell not only not disclosing those, they are actually try to hide their receivables as I have blogged earlier.

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