One of the favorite pastimes in the semiconductor industry is trying to guess which companies might be buyout bait for the private equity sector. Merrill Lynch’s Joe Osha this morning decides to play the game, asserting that Analog Devices (NASDAQ:ADI) still looks “LBOable” despite a recent surge in the company’s shares.
“Certainly from a qualitative standpoint a buyout appears to make sense given the company’s high cash levels, high free cash flow and poor record of returning money to shareholders,” Osha wrote in a research note this morning. “The question is simply whether the numbers work.”
And he thinks they do. “The answer is that the numbers do work, even taking the recent move in ADI’s stock into account,” he writes. “Our analysis indicates that a buyer could take ADI out at a 20% premium to the current price and still earn an 11% CAGR even with very conservative exit assumptions. The potential return stems from the fact that ADI’s capital structure continues to be inefficient.”
There are obstacles, though - most prominently, valuation. He notes that at a 20% premium, ADI would be valued at 22x EV/LTM EBITDA [translation: enterprise value/last twelve months earnings before interest, taxes, depreciation and amortization], as compared to the 10x that buyers paid for Freescale (NYSE:FSL) and 8x for Philips Semiconductor (NYSE:PHG). “The apparent high price tag could keep buyers away despite the potential,” he concedes. “We’re also not sure whether current management would support a deal, especially if real cost cuts were in the offing.”
Osha advises against buying the company specifically in anticipation of an LBO. “In the end, buying a company like ADI on the theory that a buyout is in the cards probably does not make sense,” he writes. “There are too many other opportunities in the market with EV/EBITDA multiples of less than 10x and willing managements. If liquidity continues to be available to buyers, though, chronically overcapitalized companies like ADI offer the potential for decent returns with relatively little risk.”
He maintains a Neutral rating on the stock.
Analog Devices today is down 54 cents to $36.41.