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Agilent Cashes Chips for Stability

By Steve Rosenbush Agilent Technologies' (A) impending exit from the semiconductor business shows how one of Silicon Valley's seminal tech companies is trying to adapt to a more conservative corporate era.

The company traces its roots to the garage that spawned tech giant Hewlett-Packard (HPQ) in the 1960s. When HP itself restructured in 1999, Agilent was spun off as a vehicle for some of its most volatile businesses -- semiconductors, chip-testing equipment, and general testing and measurement equipment. It's also active in the life-sciences sector, which enjoys a bit more stability.

Investors might have had the stomach for that sort of wild-and-wooly agglomeration of risk during the heady days of the dot-com boom. But in the better-safe-than-sorry environment of the post-bubble, post-crash, and post-recovery tech world, Agilent is a company battling the clock.

AUCTION APPEAL. Rather than displaying their penchant for risk, these days, many tech concerns are simply glad to have survived. To demonstrate their stability to investors, they're hoarding huge amounts of cash (see BW Online, 6/20/05, "Tech's Idle Billions"). With $2.6 billion in the bank, Agilent is no slacker.

But its balance sheet simply doesn't inspire the same kind of awe that cash-rich titans like Microsoft (MSFT), Intel (INTC), and Motorola (MOT) do (see BW Online, 7/7/05, "Meet Tech's Cash-Rich Royalty"). While it has more than enough money to ensure its liquidity and financial stability, its cache is hardly the size needed to dazzle dividend-hungry investors.

So, Agilent decided it could romance investors with an auction of its semiconductor business, expected to end this week. Its share price soared $1.36, or nearly 6%, to $25.70, on July 5 after published reports that the company had moved close to a deal to sell the unit. The report, which first appeared in The Wall Street Journal, said a group of private-equity firms, led by buyout specialists Kohlberg, Kravis Roberts (KKR) and Silverlake Partners, were favored to win an auction run by Goldman Sachs (GS).

TOUGH GAME. The sale would help Agilent in two ways. Analysts believe it would fetch $2 billion or more, helping boost its cash reserves. That would please investors, who increasingly demand that companies return cash in the form of dividends or stock buybacks. "Given the paltry interest rate Agilent is earning on its cash balances, we are curious about the company's plans for investing or redistributing this cash to shareholders," Morningstar analyst Mark Lanyon wrote in a June report.

The sale would also delight investors by ending Agilent's exposure to one of the riskiest and most volatile sectors, the semiconductor market. All but the biggest and most powerful players have trouble making a profit in that arena.

Motorola left the business by spinning off its Freescale (FSL) semiconductor unit last year. Even chipmaker Advanced Micro Devices (AMD) is suing market leader Intel, alleging that its chief rival has violated antitrust rules. AMD is also trying to get out of the flash memory market, where it's particularly difficult to make money, because the price of flash-memory devices like MP3 players is falling so quickly.

STILL PROMISING. The semiconductor business has been having a rough-and-tumble time of it lately. Just last year, industry shipments were growing at a pace of 30% a year, according to tech analyst Bill Whyman of researcher Precursor Group. Growth has fallen steadily since then -- and hit the zero level in May, he says, while other tech sectors, such as computers and even communications equipment, are strengthening.

Still, wild swings have always been a part of the business. "Of all the tech sectors, semiconductors have the biggest upsides and downsides," Whyman says.

That doesn't mean you can't make money in semiconductors. Intel is focused mostly on microprocessors for computers. Plenty of other niches can be mined, such as memory and specialized chips for industries like autos and communications. Freescale, which concentrates on those two areas, has done well since its IPO. Its stock hit $22.90 on July 11, up 60% over the last 52 weeks.

"MODEST REBOUND"? Yet it makes sense for private-equity investors to move into semiconductors at a time when investors in the public markets put a premium on predictable revenue growth. Private-equity investors have the luxury of not needing to worry so much about hitting quarterly revenue targets -- as long as the business is generating cash. "Cash flow for these businesses can be better than publicly reported revenue because some sources of cash, like last year's sales, can't be counted toward revenue," Whyman says.

And private-equity giants like KKR probably figure this is a good time to buy. The chip business has taken hits over the last year, dragging down valuations. But industry insiders say the problems have hit bottom, suggesting most of the risk has dissipated -- for the current cycle at any rate. "We expect to get some help on revenues from the start of a modest rebound in our semiconductor and related businesses," Agilent CEO Bill Sullivan told investors during a conference call in May.

Despite the industry's current woes, Agilent could still get a decent price. In June, Merrill Lynch analyst Brett Hodess estimated that its semiconductor business was worth about 1.2 times revenue, or $2 billion. "That's a 50% discount to peer Texas Instruments (TI), due to its weaker margin profile over the last cycle," Hodess wrote.

TURNAROUND HELP. While an auction may yet push the price above the $2 billion mark, private-equity investors may believe they have the expertise to boost the business' margins and make the deal worthwhile.

And if the modest industry recovery that Agilent CEO Sullivan predicted turns out to be real, half of the new owner's turnaround work might be done for it. Bringing $2 billion back home isn't bad in a show-me-the-money era.

Rosenbush is a senior writer for BusinessWeek Online in New York

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