Chip Shot

Broadcom's New Offer Puts Qualcomm in the Hot Seat

The new price of $82 a share is hard to ignore, and management outfoxed itself on NXP.
Photographer: David Paul Morris/Bloomberg
QUALCOMM INC
+1.14
At Closing, February 23th
63.32 USD
BROADCOM LTD
+4.36
At Closing, February 23th
253.71 USD

Broadcom Ltd.'s boosted takeover bid for Qualcomm Inc. puts the chipmaker's management team in a tough spot. 

Broadcom on Monday raised its offer for Qualcomm by 17 percent to $82 a share, nearly three-quarters of which would be paid in cash. The bump comes with an ultimatum and a deadline: If after Qualcomm's annual meeting on March 6 shareholders haven't backed Broadcom's hostile board slate or Qualcomm hasn't come to the negotiating table on its own, the deal is off.

This is a smart strategy. The Qualcomm board perhaps had a shot at fending off Broadcom's proxy fight at the previous bid of $70 a share. It was clear that price wasn't going to cut it, and investors were wary of voting in a board slate whose skillset doesn't necessarily signal better stewardship of Qualcomm's business should any eventual deal collapse under antitrust scrutiny.

But $82 is hard to ignore. It's in the ballpark of what some Qualcomm holders surveyed by Bloomberg News in November said they would accept. And, as Broadcom helpfully pointed out on Monday, Qualcomm has had a closing share price above $82 only three days in its more than a quarter century as a public company. Those days were all at least 18 years ago. 

Long and Winding Road

There have been only three days on which Qualcomm shares closed above the value of Broadcom's $82-a-share takeover offer

Source: Bloomberg

To back Qualcomm's existing board in a proxy fight at this point, shareholders would have to believe that management had a credible plan to get the stock price back above that $82 level. And it's just not clear that's the case. 

Qualcomm's earnings report last week highlighted the company's nasty business troubles. Its quarterly forecast for revenue and profits was disappointing, the result of industrywide weak demand for smartphones and Qualcomm-specific disputes over its twin revenue streams from product sales and licensing fees on its intellectual property.

The Royal(ty) Treatment

Qualcomm generates about half of its pretax income from its troubled licensing business, which Broadcom wants to wind down. Pretax earnings by segment:

Source: Bloomberg

Note: Qualcomm's fiscal year ends in September

That dual business model has made Qualcomm the target of regulators and one of its biggest customers, Apple Inc. Broadcom has seized on Qualcomm's headaches to swoop in with its takeover offer, and Bloomberg News has reported that Broadcom plans to close Qualcomm's licensing business over time to remove the friction with customers. (That's easier said than done; the licensing business accounts for about half of Qualcomm's pretax profits.) 

With all of those struggles, Qualcomm's argument for its go-forward value rests in large part on its pending $41 billion takeover of NXP Semiconductors NV, which would push it into the valuable fast-growing market for automotive and industrial chips. But a growing number of NXP holders, led by activist investor Elliott Management Corp., are pushing back against Qualcomm's $110-a-share offer and calling for a price greater than a $135-a-share estimate of the company's stand-alone value. 1

It's been apparent for awhile that an increased bid was most likely in order, but Qualcomm has bided its time, waiting for regulatory approvals to arrive in a hope that investors would eventually capitulate. In doing so, it's undermined its hand. NXP holders know now more than ever that Qualcomm needs this deal.

In a presentation last month meant to defend the company against Broadcom's advances, Qualcomm said it could garner the same $1.50-a-share earnings accretion it's targeting from the NXP deal in fiscal 2019 with a "substantial share repurchase." Financial engineering in the form of a buyback does not, however, offer the same strategic benefits as an NXP deal.  

Stacking the Chips

NXP has climbed past Qualcomm's $110-a-share offer as investors bet on a raised offer

Source: Bloomberg

The problem is any significant increase in the NXP offer could be perceived by Qualcomm's shareholders as a defensive maneuver and could only increase the odds of a vote against the current board. Even if Qualcomm somehow ekes out a win at its proxy fight, battles with shareholders will continue to haunt it if investors feel it overpaid. NXP isn't vital for Broadcom, which has said its proposal for Qualcomm will proceed if that deal is terminated. Getting antitrust approval for the Qualcomm deal is simpler without NXP.  

All of those factors combined could leave NXP without a suitor for the time being. If shareholders truly think NXP's fair value is $135 a share as a stand-alone company, then they should be just fine with that. But they better be prepared to walk the walk.

Qualcomm, on the other hand, has worked itself into a bind.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
  1. This is based on NXP's updated balance sheet after it paid down debt in 2017.

To contact the authors of this story:
Brooke Sutherland in New York at bsutherland7@bloomberg.net
Shira Ovide in New York at sovide@bloomberg.net

To contact the editor responsible for this story:
Daniel Niemi at dniemi1@bloomberg.net

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