Zebra Has A Great Opportunity To Revive Motorola Enterprise And To Create Value

| About: Zebra Technologies (ZBRA)


Zebra, which provides location and tracking solutions, is an attractive play on the RFID and Internet of Things themes.

The company is in the process of acquiring Motorola Enterprise for $3.45bn, mainly through debt.

The Motorola unit has been performing poorly, but Zebra has a real opportunity to revive it, helped by the Internet of Things secular trend.

The value creation potential could be huge in light of Zebra's high financial leverage.

Motorola overshadows Zebra's strong Q2 earnings

We highlighted in a January 9 article two plays on the RFID (radio-frequency identification) and Internet of Things themes, Avery Dennison (NYSE:AVY) and Zebra (NASDAQ:ZBRA). As a reminder, Zebra is a provider of location and tracking solutions and manufactures tags, labels and specific printers. The company is taking part in the RFID "revolution" through the production of RFID tags and printer/encoders designed to write to RFID chips embedded in labels and tags.

Zebra, which had already reported a strong Q1, delivered once again a quarterly beat in Q2 (revenues and EPS 1% and 3% above consensus respectively) as revenue growth remained healthy (+14%, o/w mid single digit organic growth) and as the gross margin continued its upward trend (+150bps). It also provided a Q3 guidance in line with consensus: revenue of $285-295m and EPS of $0.81-0.91 vs. $291m and $0.88. This confirms that Zebra's recent product development investments are now paying off and give confidence in the company's top-line outlook. The company now markets products enabling it to serve new verticals such as hospitals (use of Zebra wristbands for identification of patients and connection to electronic health records) and sports (tracking player movement in real-time).

Unfortunately, this solid report was overshadowed by a poor performance from the Motorola enterprise unit Zebra is in the process of acquiring. The unit reported a 8% revenue decline due to weak demand in Asia and to "supply chain and IT execution issues related to transitioning business processes". The -8% marks a worsening of the top-line momentum for the unit which reported -2% revenue growth last year (vs. +4% for Zebra). But we are not specifically concerned and believe that this weakness is only temporary as the current sale to Zebra is probably distracting management from daily business.

Obviously, this deal does not come without risks: the Motorola unit has much larger revenues ($2.5bn vs. $1bn), suggesting potential integration issues going forward, and Zebra's financial leverage (the $3.45bn price tag is funded mainly with debt) could become an issue and slam Zebra's earnings and valuation if the integration does not go as expected. Nevertheless, we believe that this Motorola deal could be the right acquisition at the right time for Zebra: the Motorola unit will strengthen Zebra's tracking technologies (bar-code scanning and more importantly RFID) at a time when RFID and the Internet of Things are set to explode.

RFID likely to become ubiquitous

Unlike the barcode tags & printers market which is mature, the RFID segment is at a nascent stage and is growing globally across all verticals. RFID's traditional application has been in demand recently: RFID labels make the tracking and location of items much easier and more efficient than barcode technology. As such the protection against thefts on retailers' shelves, in the supply chain (in-house thefts) or in sensitive areas (hospitals) is improving.

The other main application of RFID tags is inventory and shipments management, i.e. monitoring inventories to avoid sold-out situations and eliminating shipment errors.

As RFID is still a "new" technology, most retailers that have decided to use it are rolling out RFID selectively… but adoption is likely to increase very soon as many new applications are emerging. As the technology improves, RFID tags can now extract and record data from a variety of items such as temperature-sensitive products (drugs, biomedical items…, with RFID allowing users to track the temperature of their goods) or basic materials. Also note that the FDA has approved RFID tags for implantation within the human body.

These new applications and the printers increasing affordability (some printers now sell for less than $2,000) give confidence in the RFID's ability to become ubiquitous. According to IDTechEx, the global RFID market (includes tags, readers, software and services) will reach $9.2bn by 2014, up 16% from $7.88bn in 2013 (the number was already up 13% from the 2012 level). And the mid-term outlook offers strong prospects with research institutes forecasting that 80bn items will be connected to the Internet in 2020, directly or through a device, vs. 15bn in 2012, i.e. a c.23% CAGR.

Value creation potential is huge

Therefore, we consider that Zebra has a real opportunity to revive the Motorola business, helped by the Internet of Things secular trend. If Zebra succeeds, the value creation potential from the Motorola deal could be huge in light of the company's high financial leverage.

In all, this deal, combined with the promises of the RFID technology, are likely to keep Zebra under the spotlight.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.