I noted two months ago that activist Elliott Management's reported push (recently confirmed) to get NXP Semiconductors NV (NXPI) to obtain a higher sale price from Qualcomm Inc. (QCOM) had a good chance of paying off, given how chip stocks have performed since Qualcomm inked a $47 billion deal last October to buy NXP and how much Qualcomm needs the diversification and growth opportunities NXP provides.
Since then, NXP's bargaining position has only gotten better. And it looks as if Elliott is far from the only major NXP investor to be aware of it.
On Aug. 4, Elliott disclosed it owned a 6% stake in NXP via common stock and cash-settled swaps. The firm, which has a long history of getting what it wants from tech companies (or close to it), said it believes NXP's shares are "significantly undervalued," and that it has started talking with the company's management, board and shareholders about various issues, including the Qualcomm deal.
That was enough to get NXP's shares to rise 1.6% on Friday. They added slightly to their gains on Monday, and now trade $2.96 above Qualcomm's $110 per share offer price.
Though NXP investors approved the deal in January, Qualcomm still needs 80% of NXP shares to be tendered at the offer price for the deal to close. Several regulators also need to clear the deal, but the odds for that seem good, given the limited overlap between Qualcomm and NXP's product lines. Share-tendering is the big wild card, and as of July 26, only 7.6% of NXP shares had been tendered and not withdrawn.
That's actually down from the 14.1% tendered as of May 30th, as investors betting a higher deal price can be obtained withdraw their shares. Following Elliott's disclosure, StreetInsider reported hearing from unidentified sources that Qualcomm will have to go to $125 per share to get NXP shareholder approval.
Aiding the cause of disgruntled investors: The Philadelphia Semiconductor Index is up 35% since the day before the first Qualcomm/NXP reports arrived in late September, with some NXP peers such as STMicroelectronics NV (STM) and Microchip Technology Corp. (MCHP) posting even larger gains. That makes the 33% premium NXP got relative to where it traded before the first reports arrived now look much less impressive.
As a result, Qualcomm's offer price assigns NXP lower forward EPS multiples than some big-name peers. Whereas NXP would be valued at 15 times its 2018 EPS consensus at Qualcomm's offer price, Texas Instruments Inc. (TXN) trades at 19 times its 2018 consensus and Analog Devices Inc. (ADI) at 17 times its fiscal 2018 (ends in October 2018) consensus. And it's safe to assume those companies would want a healthy premium to agree to an acquisition.
Also giving NXP leverage: The automotive chip market, which was responsible for 45% of NXP's Q2 revenue and which Qualcomm is hungry to increase its exposure to, looks stronger than ever, judging by both NXP's Q2 numbers and those of several peers. With trends such as driver-assistance system (ADAS), electric car and in-vehicle connectivity growth acting as tailwinds, NXP's automotive revenue rose 9% annually to $938 million in Q2.
NXP's Secure Connected Devices (SCD) unit, which supplies NFC and audio chips for phones and many products for embedded/IoT devices, also fared well in Q2: Its sales rose 14% to $588 million. That helped offset a 33% drop in Secure Identification Solutions revenue -- it provides smart card microcontrollers, and has been hit by cyclical and pricing/competitive pressures -- to $134 million.
While NXP hums along, Qualcomm has been stung badly by its legal woes. Three weeks ago, the company guided for its September quarter adjusted EPS to be down 34% to 41% annually, as an expected 31% to 47% drop in high-margin licensing revenue offsets moderate chip growth.
Apple Inc.'s (AAPL) decision to stop paying (through its contract manufacturers) royalties on iPhone sales has much to do with Qualcomm's outlook. But the company is also being stung by the decision of another licensee (possibly Samsung) to stop paying, and is contending with regulatory probes over its licensing practices in the U.S. and overseas. And while Qualcomm's chip business is growing for now, things might look different in a year, given Apple's apparent interest in lowering its usage of Qualcomm modems.
Even as the Nasdaq has risen 19% in 2017, Qualcomm shares have fallen 19% due to licensing worries, and are trading less than $2 above a 52-week low of $51.05. Shares would almost certainly be trading below $50 if not for the NXP deal. While the selloff may be overdone -- markets seem to be pricing in very big long-term licensing revenue drops -- there's little doubt that the troubles to hit Qualcomm since January amplify the pressure it faces to get NXP on its books.
Moreover, with an offshore tax holiday still far from certain, the fact that Qualcomm can partly pay for the NXP deal with an offshore cash balance that totaled $27.8 billion at the end of June looms large.
Should Qualcomm fail to land NXP, it could have a hard time using its offshore cash on a comparably large and compelling M&A target. STMicro is partly owned by the French and Italian governments, both of which would likely object to the company's sale to a U.S. firm. And similar government objections might emerge if Qualcomm tried to buy a big Japanese chipmaker such as Renesas.
Just how much more Qualcomm would be willing to pay to acquire NXP in light of all this isn't easy to gauge. But considering everything that has transpired since October, the odds of the deal price going meaningfully higher now look pretty good.