NXP Semi.: Failed Merger Discount

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About: NXP Semiconductors (NXPI), Includes: AVGO, QCOM, SOXX
by: Stone Fox Capital
Summary

NXP Semi. trades back below the original Qualcomm takeover price of $110.

The stock has far trailed the SOXX ETF since the merger agreement in October 2016.

A flood of stock buybacks in the sector due to failed mergers will lift all boats.

The Chinese regulator delays provide a unique play on NXP Semiconductors (NXPI) that has a long-term growth opportunity tied into a potential short-term quick gain. Investors that step in now appear set to win either way.

Source: NXP Semi website

Qualcomm Concerns

The crazy part of the story is that NXP Semi activists just squeezed an upped $127.50 bid out of Qualcomm (QCOM) in late February to only watch MOFCOM delay approving the deal due to the trade wars with the U.S. Considering the deal appeared all but certain, most investors were still holding onto the stock despite recently hitting a high near $126.

For those not in the stock, this dip provides a rare opportunity. NXP Semi. didn't participate in the 2017 rally in semiconductor stocks hence the insistence of Elliott Advisors that the stock was worth $135 before reluctantly accepting the $127.50 offer. The iShares PHLX Semiconductor ETF (SOXX) is up over 50% since October 2016 while NXP Semi. is roughly flat. This dip back to $105 actually places the stock below the $110 offer price that Qualcomm made all the way back in October 2016.

Chart NXPI data by YCharts

The wireless tech giant thought that NXP Semi. was worth $5 more over 18 months ago providing that rare opportunity where a small investor gets to purchase a stock at prices below where insiders and corporate giants view value before the story improved.

So despite Qualcomm resubmitting its application to the Chinese regulators that provides another 180 days to review the deal, MOFCOM appears nowhere close to approving the deal suggesting negative impacts on the market. More importantly, Qualcomm announced the intent to only extend the merger approval date to July 25, 2018 with an intent to pay the agreed $2 billion termination fee to NXP Semi. no later than 9 am New York City time on July 26, 2018.

Of course, extension of the deal might occur if signs existed that MOFCOM was about to approve the deal. The key is that conclusion of the deal whether good or bad is getting close and the market likes certainty.

Win/Win

What matters for NXP Semi. shareholders is that the situation appears a win/win for them. Either Qualcomm buys the company at the premium price or shareholders participate in the growing earnings stream generated by growth in connected cars and security chips.

EPS estimates have surged since the deal was accepted. As the chart below shows, EPS estimates for the forward year have gone from close to $7 to over $8 now. The stock price though is back to the same price level as last year.

Chart NXPI data by YCharts

Remember that the Elliot Advisors target of $135 was based on peer valuation on estimated 2018 EPS of $7.23. The analyst estimate is now $7.37 and considering the time lapse from the original targets, one might argue that the accurate number to utilize is the $8.18 for 2019.

Source: Elliot Advisors

The target from Elliot Advisors was an 18.6x multiple or an amount that comes up to $152 based on updated earnings. If one applies a similar 50% gain to the stock as the outperformance of SOXX, the NXP Semi. target is similarly over $150 per share.

The additional $2 billion cash from Qualcomm will help improve the balance sheet. The stock is only worth $36 billion while adding over 5% of the market value in free cash on July 26.

NXP Semi. ended the year with about $3 billion in net debt so the combination of Q1 and Q2 free cash flow and the $2 billion breakup fee would all but eliminate the net debt position. NXP Semi. would likely return to somewhat aggressive buybacks. Along with Qualcomm and the announced $12 billion buyback of Broadcom (AVGO), the combination of all of these buybacks after the failed mergers would help lift the scarcity value of the shares in the sector.

Takeaway

The key investor takeaway is that a surprise regulatory approval from China would offer NXP Semi. investors a quick 20% gain while the numbers actually support more upside on a failed deal with Qualcomm. The stock would take longer to achieve the gains, but an independent company would likely obtain a higher valuation and the magnitude of the buybacks in the sector would help lift all boats and the scarcity value of NXP Semi.

Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in NXPI over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: The information contained herein is for informational purposes only. Nothing in this article should be taken as a solicitation to purchase or sell securities. Before buying or selling any stock you should do your own research and reach your own conclusion or consult a financial advisor. Investing includes risks, including loss of principal.